International contracts are a very integral part of any

 

International
business law

Elements of a Contract and how businesses use contracts to mitigate or
shift risks and achieve business goals

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International Business Law

 

End of Term Take-Home Essay

 

Question: Please explain the important elements
of an international contract and how contracts can be used by businesses to
mitigate and/or shift risk and attain their business objectives.

 

Answer:

Part 1: Different Elements of an
International Contract

 

An
‘International
Contract’ is an agreement between 2 parties functioning in 2 different
countries which is legally enforceable under specific conditions. As
international contracts are a very integral part of any international business
relationship, it becomes all the more essential that all parties concerned
understand and agree to some key elements outlining the roles and
responsibilities under the contract.

 

There are as many types of contracts as there are
types of businesses! Some situations might need the use of terms relevant to
the specific type of contract or relationship between the contracting parties. For
examples a contract involving sales of goods would involve elements like ‘packing’,
‘quality at time of delivery’, ‘dimensions and weight’, ‘freight’ etc. in addition
to the general clauses of a contract.

Largely, every International Business Contract makes
use of the following basic elements:

 

1.      Primary
Content

This element of the contract can be said to be one of
the most important components making up the contract as it tells us what is the
description of the product or services being rendered due to the contract. It
is further sub-divided into the following 3 parts:

 

A)   
Clear and detailed
description about the project for which the 2 international parties have come
together to have a contract.

B)   
The Conditions of
performance under which the contract holds validity.

C)   
In case of any
unfortunate outcomes like delay/failure of the project, failure to pay, etc.
how will the 2 related parties try to settle the matter.

 

2.      Parties:

All the contracting parties must be mentioned in the
contract.

 

3.      Definitions
and Interpretations:

If the contract has a distinct section on definitions,
it must ensure that all relevant terms are defined clearly and as specifically
as possible. For e.g.: “Business Day” might be defined as any day apart from
Saturday, Sunday and Public Holiday in India. In a similar fashion, “Associate”
might have the meaning given to it under a specific Act like Insolvency Act
1986. The way in which terms can be interpreted should also be covered at
relevant parts. For e.g.: “Unless mentioned otherwise, singular words can be
the same as plural words. The word ‘day’ by default means ‘calendar day’, etc.

 

4.     
Payment Provisions:

Under
this section, it should be clearly laid out what exact price will be given for
the goods/services provided under the contract. In case of special
circumstances, how will the price be adjusted should also be mentioned.

 

5.      Term of contract:

It must be clearly written as to what the start and end dates of the
contract are. Whether there is an option to continue the contract should also be
laid out. For e.g.: “This agreement shall be valid from Jan 1, 2018 to Jan 1,
2020.”

 

6.     
Timescale:

The timescale is
rather a continuous timeline on which it is mentioned the deadlines by which
each party has to furnish certain deliverables. In case any deadline is not
meant, how one party will compensate the other is also mentioned. 

 

Termination provisions:

What conditions are
valid for a certain party to terminate the contract are mentioned in this
section of the contract. This also outlines the procedure to be followed while
giving notice to the other party in case of termination of the contract. For e.g.:
“The contract can be ended by any party giving at least 3 months of prior
written notice…”

 

Change of Control:

Sometimes it so happens that while a contract is on, one party changes
the structure of its company. For example, party #1 might give a controlling interest to a company
which is a direct rival of party #2. In such circumstances, party #2 may wish
to end the agreement. The procedure for this must be mentioned in the contract.

 

Dispute Resolution:

This element of a contract entails the process to be followed should any
dispute arise between the parties. For example, is there a chance for arbitration or
mediation, etc.

 

Confidentiality:

Many a time, it so
happens that one or both the parties entering into a contract have some
information or data that they consider highly sensitive and do not want to be
disclosed in the outer world at any cost. In such situations, a Confidentiality
Clause in the contract comes to the rescue. It clearly lays out the information
to be protected and the special circumstances under which it can be released.

 

11. 
Intellectual Property Rights:

If some products are
created specifically for a contract, there needs to be a mention of who owns
the IPR or Intellectual Property Rights to that product.

12. 
Warranties:

Whenever a party is furnishing certain goods or services to another party
as part of a contract, it gives certain warranty in relation to its delivery.
Warranties enable a party to sue the other party in case breach of warranty
occurs within the warranty period.

 

13. 
Indemnity:

Indemnity clauses in a contract specify the obligation to compensate a
particular person or party by making a monetary compensation in the event of
loss or damage. By making an immediate compensation, they can
avoid lengthy procedure of dispute to ascertain what conditions led to the
damage or loss.

For
e.g.: Mountain Dew might make a social media contest winner sign the indemnity
bond which specifies that though the company is sending the winner on an
adventure trip as a prize, it is not responsible if any loss of property or
damage/death event occurs while the winner is on the trip.

 

14. 
Force Majeure:

The Force Majeure clause is a contractual provision that outlines the
circumstances which can be considered beyond the parties’ control which makes the
performance of the contract impossible. For example, cases of natural disasters or civil
unrest.

 

15. 
Applicable Governing Law:

There must be a clear written note within the contract which tells which
‘Governing Law’ is to be followed. For e.g.: “This contract is in accordance with
the laws of England.”

 

Part 2: How Businesses use contract elements to
mitigate / shift business risks

 

Contracts are
effective instruments used by businesses to mitigate any financial, operational
or market related risks and safeguard their business goals and deliverables. We
will be relying on real life cases to exemplify how firms have used clauses and
elements in the contract to protect their interests.

 

The first set of
examples deal with the Force Majeure clause in a contract being invoked. Oil
companies in African countries like Nigeria and Angola declared Force Majeure
on the native export grades. In a recent incident in the month of July 2017
Shell’s Nigerian oil unit declared Force Majeure on its Bonny Light export
grade. This came in two weeks after the previous Force Majeure was lifted.
Similarly, in the year 2016 Exxon Mobil had declared Force Majeure on Qua Iboe
grade of crude oil. The trigger events behind these are suspected to be the
sabotage attacks on oil pipelines by militant groups and oil thieves in the
region. By declaring force majeure, oil companies immune themselves from any
obligations to their downstream customers with respect to demand fulfillment.

 

The force majeure
clauses in valid contracts between oil companies, especially in Africa and
Middle East region, and their downstream customers typically include trigger
events like disruption due to terrorist activities and civil unrest in the
region in addition to the generally acceptable broad circumstances for a force
majeure. The fact that the terms of the force majeure clause were mutually
agreed upon by both the parties while entering into a contract, helped the oil
companies to protect themselves from any financial claims or legal
repercussions when the contract became impossible to perform. Similarly, there
have been incidents where mining companies, especially those into precious
metals, have invoked the force majeure clause due to labor strikes at mining
facilities. Hence it is important that businesses identify all circumstances
that are beyond their control and categorically mention these in the force
majeure clause in contracts with their suppliers and customers alike. It goes
without saying that these circumstances and trigger events need to be agreed
upon by both the parties before being included in the clause.

 

The next set of
examples deal with situations where businesses use IPR clauses to protect
business interests. A unique situation is where comic book majors like Marvel
and DC comics protect their storyline, plots and characters. The contracts that
they get into with their freelance script writers, merchandize agencies etc.
could categorically mention that the comic book giant holds copyright of the
content and the characters. So, in future if a story writer or merchandizing
agency parts ways with Marvel the former cannot claim the comic story content
to be his or cannot use the characters in their independent endeavors. Similar
IPR clauses could be employed in the music industry where various artists often
collaborate to create a piece of music. This creation is meant to be used only
in a collaborative fashion and cannot be used by any party individually without
the other’s consent or provision of royalty. Similarly, IPR clauses are often
included in contracts between suppliers and manufacturers, between two firms in
a joint venture, where a certain asset, like an IP or patented technology is
being put to strategic use. The clause clearly mentions as to who holds the
rights to the patent or the IP.

 

The term of contract
clause in any contract is useful to businesses especially when the association
between parties is going to be for a reasonable period of time. The contract
remains valid even if the signatories to the contract are no longer associated
with the parties they represent. An ideal example of the term of contract
clause being used by businesses is in maintenance and lease contracts. Material
handling equipment like fork lifts and hoists are typically hired by any
manufacturing facility. The equipment remains at the manufacturer’s disposal
for the time period mentioned on the contract. If the manufacturer has signed a
maintenance contract with the equipment provider then the provider is
responsible for the maintaining and repair of the equipment during the period
as mentioned in the contract. Going back to the example of Marvel comics, the
entity had licensed its individual characters to movie studios like Universal
Studios etc. The licensing contract has a fixed time period. The movie studio
has exclusive rights to create visual entertainment content around the comic
character during the term of the contract. Post the end of the term the parties
can choose to renew the license or part ways. In case of the latter situation
the copyrights to the comic character lie exclusively with Marvel in this
situation.

 

The example for the
payments provision clause comes from a personal consulting experience. We, a
team of students were working in the capacity of a consultant to a SME in
Bogota, Colombia. The enterprise specialized in the machine design and
fabrication phase. The firm was facing severe cash crunch with intermittent
cash flows that disrupted the day to day functioning. On further research we
discovered that the payment terms agreed upon by the SME and its clients were
in favor of the latter. Around 90% of the cost of project was disbursed after
the machine was handed over to the client. The SME ended up carrying a lot of
risk. Certain key clients also abandoned projects after the design phase of the
machine. Thus, the enterprise ended up wasting man hours with no net value. So,
we recommended a restructuring of the payment terms such that the enterprise
received a certain pre-decided percentage of the net project value after
completion of each phase of the project. The clients in turn introduced
timescale clauses into the contract setting milestones in the project that were
to be achieved by set target date, failing which the enterprise could penalized
in a manner that was agreed upon by both parties. Thus, a win-win situation was
arrived upon where the SME had regular cash flows with optimum coverage for
risk of project termination.

 

When business
entities engage with consulting firms they typically enter in to contracts
where the along with the term of project, payment terms and timescale the
confidentiality clause holds great importance. Consultancies work closely with
businesses and the latter have to share data and trade secrets that are highly
confidential in nature. It may so happen that the consultancy you hire would
also have a direct or indirect competitor in its existing client base or may
engage with one in the near future. In order to maintain data privacy firms,
agree upon confidentiality terms. These clauses would clearly outline the
extent of data that could be made public say by means of the Consultancy’s own
publications.

 

Thus, there exist
innumerable instances where clear and well-structured clauses and elements in a
contract have helped business entities safeguard themselves from or shift risks
and protect their business interests. Dedicated legal departments, preempting business
risks, monitoring all such business transactions and relationships both domestic
and international are vital to an organizations long-term success and sustenance.

 

References:

https://indiankanoon.org/search/?formInput=force%20majeure%20=2

Supreme Court on Force Majeure Clauses in Power Purchase Agreements

http://www.jonesday.com/force_majeure/

https://legaldictionary.net/force-majeure/

http://ppp.worldbank.org/public-private-partnership/ppp-overview/practical-tools/checklists-and-risk-matrices/force-majeure-checklist/sample-clauses

https://www.bizjournals.com/houston/stories/2006/02/13/focus10.html

https://info.kirasystems.com/blog/2012/11/08/force-majeure

http://www.nasdaq.com/news/#.UJizIml26Dc

https://www.reuters.com/article/us-nigeria-oil-exports/exxonmobil-declares-force-majeure-on-nigerias-qua-iboe-crude-oil-spokesman-idUSKCN0ZV1QJ

https://af.reuters.com/article/investingNews/idAFKBN0CN0F520140401

http://www.wipo.int/wipo_magazine/en/2012/03/article_0005.html

 

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