Five Essential Contracts for Small Businesses

There is inherent risk in even the most basic business transactions, such as buying and selling a service. The impact of customers disputing billings, employees leaving a company and taking clients with them, and a host of other common occurrences that can damage your business’s bottom line can be reduced by employing the proper agreements and contracts. Although no contract can be guaranteed to prevent a dispute with a major customer, vendor, or even an employee or co-owner, having these agreements in place could avoid or minimize the damage.

1) Entity Operating Agreement. This may not seem like an obvious contract to place first on a shortlist, but disputes between partners or LLC members often arise because there is no clear agreement in place, or because the original agreement has not been updated to reflect the current realities of the ownership or operation of the business. Disputes between owners concerning matters such as capital expenditures, the division or distribution of profits, or the buy-out of an owner’s interest can assume monumental proportions and distract from the management of the business. If the business started as a single-member LLC, but new members have been added, be sure to have an appropriate operating agreement prepared or revised to clearly address such material issues.

2) Standard Sales Agreement or Bill of Sale and Credit Agreement. Having a well-drafted sales agreement or bill of sale form can be critical in the unfortunate event that a dispute arises. The contract should include key terms such as the price, quantity of goods or services, duration of the contract, events of default, and each party’s remedies. Credit issues like payment terms, late fees, collection costs, or interest charges for past-due invoices should be clearly spelled out. The agreement should properly identify the purchaser using the full legal name and any fictitious or trade names. Specify in the contract whether the buyer is an individual or an entity (corporation, LLC, partnership) and, for an entity, indicate the job title and the authority of the person signing on behalf of the entity. The sales or credit agreement should clearly state who is authorized to enter into contracts or to make purchases for that entity.

3) Vendor/Supplier Agreement. Next to a sales or credit agreement with a customer, a vendor or supplier agreement may be the most routinely used business contract. In specialized vendor agreements known as “requirements” or “buyer’s option” contracts, the quantity term may be implied rather than stated. In an “exclusive requirements” contract, the purchaser agrees to buy all of its requirements for the specified goods exclusively from the seller. A variation is the buyer’s option where there may not be an exclusivity provision. This type of agreement really benefits buyers when the buyer wants to assure a supply of the product and pins down the supplier to agree to provide a supply, even when the buyer is uncertain whether it will need 1000 or 1 million. An important protection for the seller in these types of agreements is to clarify the minimum amount of goods that will be purchased over a specified period of time. Although these types of contracts may be enforced without a quantity term, the seller then assumes the risk of all variations in the buyer’s needs, even to the point where the buyer may discontinue its business and have no “requirements” at all.

4) Restrictive Covenants for Key Employees and Independent Contractors. Restrictive covenants such as compete/noncompete, nonsolicitation, and confidentiality provisions in employment contracts can help a business keep current and former employees, and even outside consultants, from disclosing confidential or proprietary information or from using such information or other “protectable interests” of the business (such as a customer list, a particular sales or training method, etc.), to compete against the business. To be effective, such covenants should be included in the original employment or consulting contract, or if added after, then additional consideration (such as a promotion, or significant bonus or pay raise) may be given. Covenants not to compete should also be reasonably limited as to geographic scope and time. For example, a reasonable geographic limit for a salesperson’s noncompete may be a particular territory or even specific customers.

5) Limitations on Computer and Internet Use.  A vital protection for the employer is to limit employee computer usage, particularly of the Internet, to business-related functions. Such limitations can be set forth in an employee handbook, where the employees should be required to sign an acknowledgment stating that they have read and understood and will abide by the company’s policies. It may also be advisable to have a notice inserted as part of the computer’s start-up process that sets forth the company’s computer policies, where the user is required to agree before being allowed access onto the company’s network. Of course, employee computer and Internet use policies are more effective if enforced regularly. The policy should be kept in a place where employees can reference it easily and you can update it from time to time. These agreements can provide an extra layer of protection for the business (and the owners), which can be particularly critical for small to medium-sized businesses.

Consulting with your attorney to prepare or update these types of contracts will help ensure that your business operates on your terms—not the other party’s. State laws can restrict or enhance your rights under these kinds of agreements. Be sure your contracts comply with the relevant laws, and contact a legal professional for more information.