Understanding Business Contracts: Key Clauses Every Entrepreneur Should Know

Do you want to become one of the 12 million contract lawsuits filed every year against small businesses?

Every entrepreneur knows that business contracts are important. But here’s the thing…

Most business owners have no clue what the most important contract clauses are that make or break a deal. And that lack of knowledge costs them big bucks. Very big bucks.

Here’s the problem:

Contract disputes cost companies up to 9% of their annual revenue. Worse? 90% of all companies end up being sued at some point during their history.

Without knowing what these critical contract clauses mean, you are essentially playing business roulette.

In this guide, I will explain what the most important contract clauses are that every entrepreneur should know. Even more important, I will show you how to protect your business from all of the most common problems before they ever arise.

What you will learn:

• Why Contract Clauses Can Make or Break Your Business
• The Most Important Contract Elements You Can’t Ignore
• Essential Clauses That Protect Your Business Interests
• Red Flags to Watch Out For in Any Agreement

Why Contract Clauses Can Make or Break Your Business

Business contracts are not just pieces of paper collecting dust in your filing cabinet.

Contracts are the building blocks of every business relationship you have. When those relationships go south, they can destroy your business very quickly.

The Hidden Cost of Poor Contracts

Let me paint a picture for you…

Businesses spend an astonishing $870 billion on dispute resolution every single year. That is correct. Nearly a trillion dollars wasted on problems that could have been avoided with a simple contract.

Here’s what makes this worse:

Basic contracts cost on average $7,000 to create, while complex contracts can easily cost $50,000. Fighting a contract dispute? That can cost you everything.

For entrepreneurs and small business owners, the cost of not understanding contract clauses is no longer optional. It is survival. When legal issues arise, the first call is often to find the right business attorney to help navigate complex contract negotiations, and to help you protect your business interests from day one.

The Most Important Contract Elements You Can’t Ignore

Not all clauses are created equal. There are clauses you can get away without, and then there are the essential clauses that are there to protect your business.

Let’s dig into what those are…

Payment Terms and Conditions

This one is very simple but also very often missed by entrepreneurs.

Your payment clause must include:

• Exact payment amounts
• Due dates
• Late fees and interest rates
• Methods of payment that will be accepted

Businesses fail because of cash flow problems more than almost any other reason. Cash flow problems often start with clients not paying. If you can specify exact payment terms and protect your rights to get paid, you have legal recourse when clients stiff you.

Scope of Work and Deliverables

Ambiguous scope of work clauses will sue you. Guaranteed.

Every contract should have a clear definition of:

• Exactly what you are providing
• What the client or other party is providing
• Deadlines and milestones for all deliverables

If these are not all defined, then you are going to find yourself doing extra work at no charge, and/or you will end up in disputes over what was actually promised.

Termination and Cancellation Rights

Things don’t always work out. You may need an exit strategy.

Your termination clause should spell out:

• How either party can terminate the contract
• The notice period required
• What happens to any monies already paid

Pro tip: Always include a termination clause. Even in long-term partnerships you think will last forever. You never know when it will come in handy.

Essential Clauses That Protect Your Business Interests

On top of the basics, there are several other clauses that can save your business from serious headaches in the future.

Intellectual Property Protection

Your ideas, designs, and innovations are valuable assets. Protect them.

Include clauses that make it very clear:

• Who owns what IP
• Rights to use existing IP
• Protection of trade secrets

Remember: If it is not in writing, it does not exist in court.

Limitation of Liability

This clause can literally save your business.

Limitation of liability clauses cap the amount that you can be held responsible for if something goes wrong. Without these protections in place, a single mistake can lead to crippling financial damages.

Common types of liability limitations include:

• Capping damages to the value of the contract
• Excluding certain types of damages

Dispute Resolution and Governing Law

When conflicts inevitably arise (they will), you want to be able to control how they are resolved.

Your dispute resolution clause should make it clear:

• Whether you will use mediation or arbitration
• Which state’s laws govern the contract
• Where the dispute will be resolved (location)

Why this matters: Force disputes into your home state and your preferred method of resolution, and you will save thousands in legal costs.

Force Majeure (Acts of God)

COVID-19 taught us that unforeseen events can crush business plans overnight.

Force majeure clauses protect you when circumstances outside your control make it impossible to fulfill your contract obligations.

Include protection for:

• Natural disasters
• Government actions
• Pandemics and health emergencies

Red Flags to Watch Out For in Any Agreement

Not every contract is written with your best interests at heart. Here are some warning signs that should make you pause before signing.

Unlimited Liability Exposure

Run for the hills if a contract:

• Holds you responsible for unlimited damages
• Does not cap your financial exposure
• Makes you liable for the other party’s errors

Automatic Renewal Clauses

Automatic renewals can trap you in bad deals for years.

Be very careful of contracts that:

• Auto-renew without notice
• Have long renewal periods with no escape
• Automatically increase prices

Unreasonable Non-Compete Terms

Non-compete clauses are a business killer.

Look out for:

• Geographic restrictions that are too large
• Time periods that are too long
• Vague definitions of what it means to “compete”

Vague Performance Standards

If you can’t clearly define what success looks like, you are setting yourself up for disputes.

Avoid contracts that use:

• Subjective performance measures
• Undefined quality standards
• Unclear acceptance criteria

Building a Contract Review Process

Crossing your fingers and hoping for the best is not an acceptable strategy. Build a formalized approach to reviewing contracts.

Before Signing:

• Read the entire contract (not just the summary)
• Identify any potential problem areas
• Negotiate any unfavorable terms

During Negotiations:

• Everything is negotiable up until you sign the contract
• Document all agreed changes in writing
• Ask questions for anything that is unclear

After Signing:

• Store contracts in a secure location
• Set reminders for important dates

Getting Professional Help When You Need It

Even with all of this knowledge, there will still be situations that call for professional legal assistance.

Spending money for legal review is necessary for:

• High-value contracts
• Contracts involving complex intellectual property
• International contracts

Remember: Money spent on legal review up front is always less than the money you will lose if you get into a dispute.

Bottom Line

Understanding business contracts is not just legal protection. It is business survival.

Every single clause in your contracts either protects your interests or it exposes you to risk. There is no middle ground.

The entrepreneurs who succeed over the long-term are the ones who:

• Treat contracts seriously from day one
• Know what the key clauses are and what they mean
• Know when to get professional help

Don’t become another statistic in the contract dispute graveyard. Use this knowledge to protect your business, to avoid expensive and time-consuming legal battles, and to focus on what you are best at…growing your business.

Your contracts are the foundation of all of your business relationships. Make sure that foundation is rock solid.