Business is a risky game. Whether you’re dealing with another business or an individual, there’s always the risk of fraud or someone backing out of their commitments. That’s why businesses sign contracts—to protect themselves from these risks. Almost every businessperson knows this. But if someone asked you to define a contract, could you do it? In this post, we answer the question- what is contract in business and explore the concept of a business contract exhaustively.
What is a Contract in Business?
A contract is a legally binding agreement between two or more parties.
It outlines the terms of the agreement, such as what each party is responsible for and what will happen if one party doesn’t uphold their end of the deal.
Contracts are important because they help to ensure that everyone involved in a business transaction is on the same page and that there are consequences for not following through.
Likewise, contracts can be verbal. These are informal contracts.
The main idea in a contract is that the parties involved promise to carry out their end of the bargain.
You could think of contracts as business promises—perhaps a more formal and serious promise—but a promise nonetheless.
Contract Vs Agreement
People often use the words contract and agreement interchangeably.
However, this is not technically correct because agreements are not always contracts, even though contracts are always agreements.
Let’s break that down a bit.
Every contract is an agreement; it is a promise that all parties decide to keep.
However, not every agreement is a contract; some agreements are simply agreements.
An agreement is when two or more parties agree to do something on their own; agreements are not legally binding.
So, if a party fails to do their duty as stated in the agreement, the other parties can’t take legal action in court to solve the situation.
But an agreement becomes a contract when it has certain elements that make it legally enforceable and binding.
In the case of contracts, if one party fails to do what they are meant to do, the other parties can take legal action.
The elements that turn agreements from mere promises into contracts include offer and acceptance, capacity, consideration, awareness, and legality.
If an agreement has all these elements, then that agreement is a contract; it can be legally enforced.
A Written Document Does Not Necessarily Mean you Have a Contract
Some people tend to think that once they have written down something and both or all parties sign it, they have a contract.
Sadly, this is not true.
Even if you write and sign a document, if the document does not have the elements that make up a contract, it is still simply an agreement.
Likewise, you do not necessarily have to write down the terms of a deal and sign it to make a contract.
Remember, contracts can be verbal too.
Even verbal contracts are legally binding, as long as all the elements that make up a contract are present.
So, when entering into a contract with someone, the aim should not just be to have a written document.
You should focus on making sure that the contract has all the necessary elements.
Should you have a contract or an Agreement? What is Contract in Business?
Now that you know the difference between both terms, you need to know when to use one or the other.
The truth is, you can’t always make a contract when carrying out all your business processes.
This means that sometimes you may have to settle on an agreement.
However, knowing when to use an agreement is key.
Agreements rely greatly on trust.
So, you should only make an agreement with credible and trustworthy people.
If you do not know a person or business entity well enough, then it would be unwise to make an agreement with them.
Also, if money is not involved in the deal, then you might not necessarily need to enter into a contract.
Rather, you can just stick to an agreement.
However, if you are dealing with someone you do not know well, then you would need to protect yourself from uncertainties.
In which case, you’d be better off getting into a contract with them.
Types of Contracts – What is Contract in Business
Contracts can be divided into three major categories.
Verbal contracts, written contracts, and standard-form contracts.
Let’s take a closer look at these different types of contracts below.
If you do not write down the terms of your contract and have everyone sign it, but you speak about the deal and ensure the deal has all the elements of a contract, then you have a verbal contract.
A verbal contract is still a contract, even if it is not written down and signed by all parties involved.
As long as the deal has all the essential elements of a contract, such as an offer, acceptance, and consideration, it is legally binding.
Sometimes, all you do to seal this type of contract is a handshake.
But verbal contracts can be somewhat tricky.
They mostly work out when there aren’t disputes.
However, if a dispute occurs, enforcing the contract can be quite difficult, as you won’t have any form of proof.
Also, verbal contracts can cause several uncertainties and issues.
Since there is no document detailing the obligations and rights of each party, there could be some confusion as to what each party is entitled to.
Part Written, Part Verbal
Some contracts could be verbal in part, and there may also be some documents that show the agreement between both or all parties.
These documents could be quotes, specification lists, and so on.
In some cases, parties involved in a verbal contract may decide to write out the major points of the agreement as a sort of reminder rather than relying on their memories.
If you have a part written, part verbal contract, then ensure you keep every document that connects to the contract.
You can use the paperwork to solve a dispute that arises later on.
If it is beyond what you can handle and you need to take legal steps, then you can use the paperwork as court evidence.
Some paperwork that might support verbal contracts includes emails, materials lists, quotes (must contain relevant details), and notes you took about the discussion.
Disadvantages of Verbal Contracts
The following are some of these disadvantages:
For starters, not having a written document that details the obligations of every party may cause misunderstandings.
A party may end up fulfilling their obligations wrongly or incompletely
Also, when it comes to the rights of the parties, there may be some dispute.
Since everyone would be relying on their memories, each or all parties may have a different memory about the things they agreed on.
Finally, even if the dispute gets so bad that you have to go to court, there may be difficulties in solving the case.
It would be a “your word against theirs” situation as there would be nothing to prove the contract and its terms.
Written Contracts – What is Contract in Business
If you write out the terms of the deal (parties’ obligations and rights) and each or all parties sign it, then you have a written contract.
Written contracts offer clarity and a level of certainty that verbal contracts cannot provide.
They clearly set out the obligations and rights of each or all parties to the contract.
So, everyone knows what they should or shouldn’t do and what to expect at the end of the contract.
Written contracts offer more protection.
If you ever have to enforce the contract, you’ll have concrete proof to do so, unlike in verbal contracts where it is your word against theirs.
Written Contract Benefits
The following are some of the benefits of written contracts:
- Serve as concrete proof of the agreement between both or all parties
- Reduces the chances of disputes and misunderstandings since all parties have a clear understanding of the deal from the get-go
- Details the terms of the deal, including payment terms, time frames, parties’ responsibilities, and so on
- Details how any party can terminate the contract even before the project is over
- Offers every party involved peace of mind and a pillow to fall back on in case something goes wrong
Standard Form Contracts
Standard-form contracts are pre-prepared contracts.
This means that the contract has already been prepared beforehand, and all you have to do is read and then sign it.
So, usually, the terms of these contracts are made in advance, and the parties involved would have little to no negotiations about these terms.
These documents are printed beforehand.
But there would be some blank spaces, usually for the parties to fill in their information, like their names, signatures, and dates.
These contracts are, most of the time, quite complex and may contain certain terms that you’d likely not understand.
A lot of these contracts are one-sided, offering more benefits to those who wrote the contract, and just like any other contract, you become legally bound to it once you sign it.
This means that you would have to comply with the terms of the contract, regardless of whether you read and understood them or not.
If you do not understand the terms of the contract, then consider asking for professional advice from a legal practitioner.
If you have to sign a standard-form contract, then you have to be as careful as possible.
The following are tips to remember when dealing with a standard-form contract:
Ensure You Properly Read the Entire Document Before Signing
Before signing the document, make sure you take your time to properly read it through.
Remember, if you sign the contract, you must comply with it.
So, you should not bind yourself to it without fully understanding it.
Get Professional Advice
Standard-form contracts have certain terms that someone unfamiliar with them may not understand.
This is why you need to get professional advice to make sure you fully understand what you are getting into.
Negotiate – What is Contract in Business
While negotiation in standard form contracts is limited, that does not mean you cannot negotiate at all.
After reading the document and getting professional advice, you may find some areas in the contract that you do not want.
In this case, you have to negotiate with the party that made the document.
For any change to be effective, it must also be reflected in the document you sign.
So, do not sign the document with just a promise that they’d change the term.
Make sure this change is properly recorded in the document you sign.
Cross Out Blank Spaces
After filling out the document, look through it and cross out the remaining blank spaces.
This is necessary because a blank space leaves room for change.
The other party may use any free blank space to change the contract after you fill it.
Keep Your Copy
Finally, ensure you get a copy of the contract too.
When signing a standard form contract, make sure all parties have copies, and every party must sign all these copies.
This way, everyone involved in the contract will have an original copy.
If you can’t do it this way, then you should make a photocopy of the document after everyone signs it.
Ensure that the copy you get is the same as the original.
Also, make sure you keep the copy safe, as you may need it for reference in the future.
Contract Clauses – What is Contract in Business
Contract clauses are the legally binding parts of a contract.
They are legal sentences and phrases in a contract.
You could say that contracts are made up of several clauses; they are the elements of contracts.
And they specify the contract terms.
Every sentence, phrase, and paragraph in a contract document has a specific purpose.
All these clauses make up the entire document.
Standard clauses, also called boilerplate clauses, are usually generic and commonly used by legal practitioners.
These clauses are easy to use, they reduce negotiation time, and they reduce the chances of needing legal advice.
There are so many types of contract clauses, with each type serving a specific purpose.
Before you enter into any contract, you must take your time to understand every clause in the contract.
Once you sign the contract, you become legally bound to it, and it won’t matter whether or not you understood the clauses in the contract before you signed it.
Breach of Contract
When two or more parties make a contract, they are legally obligated to fulfil the terms of the contract.
However, when one party fails to comply with the terms and fails to fulfil their obligations, then you’d have a breach of contract.
There are so many ways parties can breach contracts.
For instance, if a party does not complete the project during the contract’s timeframe or fails to pay the other party on time, the other party can get compensation for the breach by suing the other party.
However, you must do the following:
Prove Contract Validity.
For your case to stand in court, you must prove the validity of your contract.
A contract is only valid if it has all the necessary elements that make up a contract.
Also, all participating parties must have signed it.
As one of the participating parties, you must also have some obligations in the agreement.
And for you to call someone else out on not holding their end of the deal, you have to complete your end of the deal.
So, for you to sue the breaching party, you must be sure that you have completed your obligations.
You must be able to prove the breach of contract.
You must give the party you are suing prior notice.
Before you sue the breaching party, you have to make sure you let them know that you intend to sue them.
While you can do this verbally, you should consider using a written notice instead.
This way, you’d have proof that you gave prior notice.
Remedies for Breach of Contracts
There are three main remedies for a breach of contract: damages, cancellation and restitution, and special performance.
So, if you take the breaching party to court, you’d get one of these solutions.
With damages, you will receive a payment from the breaching party for the breach.
There are different types of damages, and the type you get would depend on several factors like your business industry, the contract terms, and so on.
With specific performance, the breaching party has to complete the project or carry out a particular action instead of paying damages.
Finally, all parties have a part to play in cancellation and restitution.
The affected party or parties have to cancel the contract instead of seeking damages and then sue for restitution.
The breaching party would then pay the restitution, which would be equal to the services or obligations the affected party or parties offered the breaching party.
Conclusion on What is Contract in Business
If you want to work with another business or individual, then it would be best to enter into a contract.
It is not enough to just have a verbal agreement; you should also put the contract into writing.
Having a written contract can protect your business from several risks and financial losses.
So, you should not take this business process lightly.
When you have a written contract, you always have something to fall back on in case things do not go the way they should.