How to Avoid Major Losses When a Contract is Breached

Contract fulfillment and compliance is one of the more difficult things to enforce in the business world. There really is not a way for any business to regulate its business partners perfectly to ensure their fulfillment of the contract. So, what do you do when another party reneges on a contract? How do you ensure that you won’t lose too much if the other party cannot or will not fulfill their contractual obligations?

Analyze the Risk

The very first thing that you should do comes in the procurement stage. Always analyze the risk of doing business with the party in question. You should look at what their market is like, what their business model and financial history is like, and determine if their performance history is adequate and worth investing in.

Include Provisions in the Contract

Having done that, your next step should be to always include risk mitigations in your contract. Have a clear outline of what the expectations are for defaulting or failing to comply with the contract.

In typical cases, a breach of contract is punished by the requirement of the defaulting party paying money damages to the party who kept the contract. The difficulty is more in determining if they breached the contract or not.

Clarify in the contract what a breach would mean. While it is obvious when a contractual party simply does not perform the contracted work, it is often more ambiguous whether or not a completed service meets the requirements of the contract.

As an example, suppose I contract with my neighbor to deliver 100 apples to my home on August 12. I agree to pay him $50 for this service. If I walk outside on August 12 and discover that the apples are not there, he has clearly breached the contract. He did not provide the desired goods that we both agreed to.

If, however, I walk outside and discover 100 apples on my lawn, but they are worm eaten and moldy, then I have a bit of a problem. All I specifically asked for was 100 apples. I did not give specifications as to type of apple, quality of apple, or age of apple. He technically fulfilled the contract. You see the difficulty?

For this reason, be certain that your contract is clear as to what you are expecting and what would be considered underperforming. Explicitly state the performance standards, deadlines, and payment methods so that it can be easily determined if any party has underperformed.

Request Assurances of Delivery

If you have reason to believe that the other party will be unable to fulfill their contractual obligations, then you have a right to demand adequate assurances of performance. Until this assurance is provided, you can suspend your own fulfillment of the contract for 30 days. At the end of the 30-day period, the other party must either provide reasonable assurance, or the contract is officially repudiated and both are released from their contractual terms.

This is a way to ensure that your company is not strung along for months on end, only to discover in the end that you will not be receiving the promised goods. It gives you ample time to mitigate risks, prepare legal actions, and plan for what would occur should the other party be unable to provide the contracted services.

Mitigate Risks as Best You Can

Sometimes, despite all you do, there will be contracts that go unfulfilled because of economic downturns, market problems, supplier inabilities, or other common issues. You’ve taken steps to prevent these risks from happening, and you’ve tried to keep calm, but sometimes things like this happen.

At this point, your best course of action is to mitigate risks through whatever means possible. If you don’t attempt to reasonably mitigate the risks, then the eventual lawsuit that you take against the defaulting party can be seen as invalid by the courts. They will see that you were unconcerned about the damages caused, or that they were insignificant damages, and may determine that you will not receive the cost of damages.

As such, attempt to secure other contracts that will cushion the blow of losing this contract. Try to see far in advance to determine if such steps will be necessary.

Take Legal Action

As much as we all dislike the court room, sometimes things need to be taken there. When your efforts to mitigate risk and damages done are not enough, you will need to take the other party to court.

The terms of payment should have been clearly defined in the terms of the contract, so there will be no guessing about who pays how much. This is why it is so important that the language of your contract is clear, precise, and easily interpretable. Having a clear contract could save your company a lot of money in damages and lawsuits.