While we may be in a “new normal,” the “old” rules still apply to your business’s relationships governed by contracts. Whether you are looking to hold the other party to its bargain or seeking a way out, the terms of the contract will determine what options are available to you. For example, while the seller of Victoria’s Secret anticipated that the prospective buyer might seek to use the pandemic as a grounds to back out of the deal, the buyer nevertheless found a hook in the contract which it sought to use to free itself from the deal. That case both demonstrates not only the need to think broadly and creatively about all the potential “what ifs” to address in a contract, but also the need to examine and understand the terms of your existing contracts to identify the risks and opportunities within them. In the end, it often comes down to one question: What does the contract say?
This article will explore considerations your business should give to the agreements which govern its various relationships, including internal relationships between or among business partners; relationships with your employees; and external relationships with your customers and vendors. Now more than ever, closely examining the agreements which manage your business’s various relationships is critical to protecting your interests and making informed decisions about whether to seek to avoid or pursue litigation.
The Relationship Among Business Partners
Upon starting a new venture, business partners often enter into agreements which set forth their respective rights and obligations. A common scenario giving rise to a “business divorce” occurs when one or more owners feels like there is an imbalance between the contribution of each owner and what each owner receives; that is, the system in place to divide the financial pie no longer seems “fair.” As businesses are put under financial stress during these challenging times, these feelings of inequality may intensify.
Whether you are planning your own exit strategy or that of one of your partners, before taking any action, it is critical to review and understand the existing agreements governing the rights and obligations of the departing partner. Questions to consider include:
- What rights does a departing owner have to sell his/her shares or to force a re-purchase of the owner’s interest?
- Does the business and/or its partners have a right of first refusal to purchase the departing partner’s shares?
- How is a partner’s interest in the business valued?
- How are disputes over value resolved?
- What may a departing owner take in terms of documents or clients?
In addition, you should understand the broader legal framework which will serve as the backdrop to any dispute that may arise with the departing shareholder. For example, in Massachusetts, owners of a closely held business may owe each other a fiduciary duty which requires them to act with utmost good faith and loyalty. This duty may be breached when the majority seeks to “freeze out” a minority owner, who will be entitled to a remedy that is consistent with the owner’s reasonable expectations of the benefit from ownership. While litigation may not be entirely unavoidable, it is vital to avoid committing an unforced error if at all possible. Making uninformed or hasty decisions will likely lead to more protracted litigation in the future.
Relationships with Employees
Businesses also should be aware of and review the agreements governing their relationships with employees. As businesses face painful decisions about whether to reduce headcount, furlough employees, institute pay cuts, and/or take other actions to reduce employee-related expenses, it is important to be mindful of the legal rights of employees and the legal obligations of employers arising out of existing agreements and/or the background law. For example, while most of your employees may be “at will,” some may have employment agreements. Such agreements often define grounds for termination “for cause,” while reserving to the employer the right to terminate an employee “without cause.” If you believe a “for cause” termination is justified, give thought to how you will be able to document that the grounds for such a termination existed at that time in the event of a future claim by the terminated employee. If you opt to exercise your right to terminate an employee without cause, be mindful of the rights due to the terminated employee. For example, is the terminated employee entitled to some form of compensation? If so, your business should have a plan in place to satisfy that obligation.
In Massachusetts, it is critically important that an employer understand its obligations under the state’s Wage Act. Employee-friendly features built into the Massachusetts Wage Act – including the potential to recover attorneys’ fees and triple damages – give employees an incentive and ability to pursue such claims. As a result, businesses should tread carefully, for example, making sure that terminated employees receive all payments to which they are entitled and at the proper time. Similarly, when employers determine that reducing employees’ pay is necessary, resist the urge to characterize the reduction as a “deferral.” Avoiding this hard choice now could expose your business – as well as its president, treasurer, and potentially others in charge of the business – to significant liability under the Wage Act.
Relationships with Customers and Vendors
Also give thought to your business’s external relationships with customers and vendors which are governed by contract. As with any of your business’s other relationships, it is important to understand both the specific terms of your agreements as well as the background law that may apply to the transactions. For example, if you do business in California, you will need to understand whether your business is subject to the California Consumer Privacy Act, which took effect on January 1, 2020. The act gives California consumers, among other things, certain rights regarding their personal information that gets collected.
Wherever you do business, you also should consider taking a close look at the terms and conditions in your purchase orders. Among the questions to consider asking is, for starters, whether your business has written terms and conditions. If so, are they clear? Do they conform to actual practice? Do they clearly identify measurable deliverables? Are you unknowingly engaged in a “battle of the forms” with a customer or vendor? Where your performance may depend on the performance of a supplier over whom you do not have control, think about ways to protect yourself if your ability to perform is compromised by what your supplier does or fails to do.
As with all agreements, it is important to assess whether your understanding of a contract’s terms is consistent with what the contract in fact provides. What the contract actually says, not what you think it should say, will control in any dispute with the other party. If you discover a disconnect, consider whether the actual language of the contract helps or hurts or whether you need to raise with the other party the possibility of amending the contract.
This website presents general information and is not intended to provide legal advice and it should not be considered or relied upon as such. Under the rules of the Supreme Judicial Court of Massachusetts, this material may be considered as lawyer advertising.