One of the most exciting and nerve-wracking parts of business is building and committing to a deal. It is partly art, partly science, and partly construction project. It’s exciting to think of the potential growth or improvement the deal will bring, but the details and unfamiliar contract terms can be overwhelming.
Once the plans are on paper and you have divided risks and rewards with your collaborator, the next obvious step is to sign it. But, how do you comfort that small voice inside – the one asking if it is a good deal?
The hard fact is that you will never know, except in hindsight, whether any particular deal was a good idea. You are making a bet. The good news is that you can hedge that bet.
Manage your risk and ease your heartburn by building into each contract a ceiling, a floor, and a back door. If done correctly, you can move from simply making bets to an arrangement where the buyer pays for results and the seller receives the value of their performance.
Include in the contract the maximum you are willing to pay, or the maximum effort that you are willing to exert. The ceiling can be based on any measurement in the agreement — time spent, money spent, resources committed, etc.
For example, if you believe a new project will last two months and should never take more than four months, then include four months as the ceiling in the agreement. Or, if you guess that your consultant or IT support will need to commit 10 hours a week, and 15 hours a week is the most you want to pay for, then 15 hours a week is the ceiling and must be included in the contract.
After putting the ceiling in place, you are protected from going beyond that maximum. Next, you must protect yourself from the agreement dwindling below your minimum expectations.
Establishing the floor will define the least you would want to do, have done, pay, or be paid. Just like the ceiling, the floor can be defined by whatever measurement that makes the most sense in context.
For example, many franchisees or sales representatives have an exclusive territory. However, the business owner or stock holder is the one at risk if the sales representative cannot sell. Establishing a floor of the level of sales needed in order to keep the territory is a great way to protect the boss/owner and the sales rep.
In another context, offering preferential pricing or a lower hourly rate can be made available with a minimum purchase level. For service contracts, a minimum monthly client commitment keeps resources available and the client engaged.
Even the best plans can go awry. A good contract will have a back door, which is an organized way to cut your losses and move on.
The exit events can be triggered by performance marks, deadlines, milestones, sales targets, or other contractual requirements. If this happens to you after signing a contract with another business or individual, you will want to either have it quickly fixed or get out from under the contract.
The contract should include details on how the parties communicate with each other when expectations and contractual requirements are not met. For example, the parties can agree to give notice of a problem and then let the other side have 30 days to solve the problem.
The back door can protect you from much more than poor performance. Circumstances may change. For example, maybe a larger opportunity that is too good to turn down comes your way and you must commit all your resources to it. Termination for convenience is another way of ending a contractual relationship that does not require any breach or failure on either side. To protect both parties, it is wise to include a substantial notice period and provisions for handing off partial work or securing payment up to the time of termination.
These simple steps can make your contracts work for you by minimizing risk and giving you peace of mind. Build them in, every time.