The business world runs on contracts–and as a startup company, you should be prepared to sign a lot of them. Contracts with employees, with vendors, with investors, with subcontractors…the list goes on and on. A well-crafted contract spells out the nature of the relationship between two parties, defines the roles and expectations of each, and more. The contract doesn’t just protect you–it protects the relationship itself.
But any time you enter into a contractual agreement, there’s one critical element you should always include. Can you guess what it is?
It’s an exit clause.
That’s right. Every contract should include verbiage that describes how to end the business relationship. Let’s talk about why.
All Business Relationships End at Some Point
In human relationships, some have an expiration date, and some, like marriage, will last a lifetime (at least we hope!). But that’s not the case in business. No matter how well a business relationship starts, and no matter how mutually beneficial the relationship is, you need to expect that all business relationships eventually come to an end. At some point, for one reason or another, one of the two parties is going to want or need to vacate the relationship. If there’s no mechanism in the contract that specifically spells out how to end things, things can get very sticky very quickly–and in some cases, the only way to resolve the dispute is in court (which I don’t have to tell you can be quite expensive).
As the saying goes, “an ounce of prevention is worth a pound of cure.” This is why it’s so important for entrepreneurs and businesses to include an exit strategy in their contracts. An exit strategy will help ensure that the ending of the relationship can occur smoothly and without hard feelings or disputes. Having an exit plan gives both parties a clear understanding of what happens when the contract ends, including who owns any assets created during the course of doing business together. Having this clarity can help avoid disagreements and costly legal battles down the line.
The Elements of an Exit Strategy
An exit strategy should discuss key factors that will provide clarity when (not “if”) the business relationship ends. Each exit plan will be a little different based on the type and nature of the business alliance, but it should be as detailed as possible, addressing every conceivable question regarding how to unwind the relationship. This provides both parties peace of mind knowing they have an out if needed without having to go through court proceedings or mediation. It also guards against either party being stuck in an undesirable situation with no good options for finding a way out.
Examples of questions that should be addressed in your exit plan include:
• How much advance notice should be given? (e.g., 30 days, 90 days, 365 days)
• How much time should be given to conclude the relationship?
• Are there any assets that need to be transferred or disposed of?
• If there are shared assets, how will they be divided?
• Who will own what intellectual property and/or copyright?
You should also include verbiage discussing final payment arrangements (if applicable), non-compete clauses (if applicable), and protocol on how any disputes will be handled.
Enforcing Your Exit Strategy
Once you’ve included all these elements in your contract, you must ensure it is followed by both parties until its completion or dissolution. This means making sure that all deadlines are met, payments are made on time, and any other requirements as outlined in the contract are fulfilled as agreed upon by both parties. If either party fails to follow through on their part of the agreement, legal action may have to be taken in order for one party to enforce their rights under the contract. However, having an exit strategy already established upfront makes this process much simpler and less time-consuming than having no plan at all for when things go sideways (which they do more often than people would like to think).
The best way to know whether you’ve got a well-crafted exit strategy built into your contract is to have a skilled attorney draft it for you–or, if the other party gives you a contract, have a trusted attorney review it before signing it. It’s better to identify vulnerabilities and make changes before the contract goes into effect than after you’re already locked in. At Hood Venture Counsel, we focus on protective and preventative measures to help startups thrive without getting entangled in legal disputes, including drafting contracts and providing thorough contract reviews. To learn more, contact us here.