If you own your own business, sooner or later you’ll encounter a contract with legal terms that will send you scrambling for a dictionary (or a lawyer). We can’t rid the world of legalese (believe it or not, there’s often a good reason for it), but we can try to make reading legal documents a little less mind-numbing by describing a few concepts that appear in almost every contract you’ll ever read and explaining why they may matter to you.
Representations & Warranties
Representations and warranties are statements about facts existing at the time a contract is signed, and are made by one party to induce the other party to enter into the agreement. For instance, a contract will often include a statement from each party to the effect that entering into the agreement will not conflict with any other then-existing contractual obligations of that party. This statement speaks only as of the moment the contract is signed; it does not include contracts that may be made in the future or those entered into in the past that are no longer in force. If a representation or warranty made by one party is later found to be untrue, the other party may be able to sue for any resulting damages or enforce other remedies described in the agreement.
Representations and warranties are important because they bridge the information gap between parties to a contract. They are most useful when one party, “A”, is relying on information about the other party, “B”, that is much more difficult for A to determine than it is for B. For example, if company A is acquiring company B, A may ask B to represent and warrant that B has paid all applicable taxes, which would usually be difficult for A to verify independently. When entering into an agreement, you should always make sure that the representations and warranties you are giving are true. You also want to make sure that the other party’s representations and warranties cover any material information provided by the other party that you are relying on without independent verification.
We should point out that technically a representation is not the same as a warranty, and in some instances this difference does matters (think of a manufacturer’s warranty on a consumer product, such as a car), but in most business contracts the terms are usually used in tandem (as in, “the seller represents and warrants to the buyer …”) so the distinction becomes irrelevant.
Covenants
Whereas representations and warranties concern the present, covenants concern the future. A covenant is a promise to do something, or refrain from doing something, during the term of the contract. For instance, a party may agree not to enter into any future agreement that will conflict with its obligations under the contract being signed. If a party violates a covenant, the other party may be able to sue for any resulting damages or enforce other remedies described in the agreement.
Covenants are important because they spell out the obligations of each party under the contract. Covenants may be conditioned in a variety of ways, so pay attention to when and under what circumstances a covenant must be performed. Before entering into an agreement, be sure you understand what is required by each covenant you are making, and be sure the other party’s covenants encompass every action you expect them to perform and the contract makes clear when and how those actions will be performed.
Tags: agreement, contract, covenant, representation, warranty
Tags: agreement, contract, covenant, representation, warranty