Statutory and custom-designed remedies speed the learning curve

In the legal world, a “remedy” is a tool available when a contract goes bad, when one party cannot, or will not, fulfill its obligations. Contract law provides a set of statutory or “default” remedies that are available to everyone, and that apply to all contracts, unless the parties agree otherwise.

These “default” remedies are designed to “make a party whole,” to deliver “the benefit of the bargain.” In most cases that “benefit” is measured in cash, and the definition of “benefit” might seem unduly narrow.

Consider this agreement: Party A contracts with Party B for 100 widgets, at $1 each. Party B fails to deliver and, after a 10-day search, Party A finds Party C, which provides the widgets for $1.20 each. Also, because of the delay, Party A incurs a $20 penalty to Client. What, if anything, does Party B owe to Party A?

The most obvious claim would seem to be for the extra $20 for the widgets. After all, Party A expected to pay only $1.00 each, and no doubt bid the work based on that price. Party A incurred the extra cost only because of Party B. Of course, B could argue that A is merely attempting to obtain the more expensive Deluxe Widget for the price of a Basic model.

Party A also may want to claim the cost of personnel time and lost productivity incurred in the search for a replacement supplier. In addition, A may believe B is liable for the performance penalty, as A believes it would have met the delivery date but for B's failure.

Party A's claim for personnel time and the performance penalty are problematic. Courts tend to focus on the contract price, and are reluctant to add on extra costs not contemplated in the agreement.

The claim for personnel time could be dismissed as a cost of doing business, and as something Party A could have controlled, either by ensuring Party B was ready and able to deliver on time, or by having a reliable backup in the wings.

With a little forethought, the court would argue, Party A could have avoided these costs. Party B did not have that option, so B should not bear the cost. The same logic could apply to the performance penalty, unless the contract between A and B disclosed the possible penalty and provided that B would pay for it; or the contract contained a “time is of the essence” clause, which would allow A to argue that B should bear costs resulting from B's delays.

Consider the narrow scope of obligations imposed on B: Deliver the widgets for the agreed price. A is responsible for managing the timing of the project and for any costs that flow from delays. If Party A expects Party B to be liable for delays, A must negotiate for that potential liability, B must price for it, and it must be recorded in the contract.

Needless to say, Party A is unlikely to feel “whole” when is all and said and done, after it has spent much time and money on lawyers and recovered $20 for the extra cost of the widgets. Party A might say, in legal terms, the “default” remedy “failed in its essential purpose. Perhaps the only parties truly pleased with the outcome of the dispute might be the attorneys for A and B.

Of course, the statutory remedies are not the only ones available; they are not mandatory. Parties are free, within reason, to fashion their own remedies. The statutory remedies exist as a default, as a last resort, to serve those parties who do not stop to fashion their own.

In the case of A and B, A might have built in a timetable, with penalties if B failed to deliver, giving B “skin in the game,” and reducing A's potential exposure. In return, B might have insisted that A have a viable back-up plan in place in the event B was unable to perform, or B could have bought insurance to cover its own exposure.

The more complex or sophisticated the transaction, the greater the likelihood that the statutory remedies will be inadequate—and all the more reason for the parties to design their own. Their solution should serve two ends:

• It should encourage the vendor to perform on time and within budget.
• It should establish that, in return for full performance, vendor will be paid in full and on time.

In other words, a carefully crafted set of remedies will keep the project on track, rather than attempting to simply apportion costs after the project has failed. While all transactions are, of course, different, certain approaches have repeatedly demonstrated their value in technology deals:

• Tie payment to performance, not merely to the passage of time. Pay when X is completed, not on the 30th day after the contract is signed. For the customer, at least, it is better to keep the money in hand until the work is complete, rather than having to try to recover it.
• Define “success” clearly and in terms that can be objectively measured. Such standards ensure the customer will get what is wanted and needed, while protecting vendors against a customer who suddenly gets cold feet.
• If the project is large or complex, break it into separate phases, permitting the customer to call off further work after each phase. Customer will, of course, pay for work completed to date. If Vendor's performance is substandard, however, Customer may be entitled to withhold payment for the work performed. On the other hand, if Customer encounters financial difficulties in the midst of the project, Vendor may want the option to walk away and avoid running up a large bill that might not be paid.

• Mutually agreed acceptance testing standards and procedures, combined with the right to correct any defect disclosed by the testing. Agreed standards and procedures protect customer and vendor, while a right to cure gives vendor an opportunity to fix the problem—and keep the project moving—without immediate resort to litigation. If the project is large, complex, or critical, customer may want the right to bring in a third party to fix the problem if vendor is unable to do so promptly. Customer would, of course, insist that vendor pay for this third party.
• Warranty coverage, beginning on the first productive use of the product, rather than some earlier date, such as delivery or installation. Customer given assurance that the product will continue to operate after vendor goes home. Vendor is protected by the opportunity to return and repair any glitches that might arise. Again, it is valuable to resolve defects without going to court whenever possible.
• Complete specifications—i.e., details, details, details:

—What will the product do?

—When will it be ready?

—What will it cost?

—Who will do the work?

Careful planning can eliminate unreasonable expectations and reduce the chances of unpleasant surprises, which create the opportunity for delay and dispute. That might be the best remedy of all. As our grandmothers taught us: “An ounce of prevention is worth a pound of cure.”