5 Lessons Learned: Legal Contracts That Every Food Business Needs
by Lauren Handel Principal Attorney of Handel Food Law LLC
Food entrepreneurs may be intimidated by contracts or feel that formal contracts get in the way of building trusting business relationships. But written contracts — preferably, in easy-to-understand, plain English — can be the foundation of a good, mutually beneficial business relationship. So what kinds of contracts do food businesses need? There are many types of agreements that should be memorialized in writing. Here are five key contracts that most food businesses will need at some time.
Some of the most valuable intellectual property that a food business owns — such as its recipes and manufacturing processes — can be protected, for the most part, only as trade secrets. A trade secret is information that gives the owner a competitive advantage because it is not generally known to competitors. The law protects trade secrets, but only if the owner takes reasonable steps to keep them secret. Of course, total secrecy is impossible because food businesses need to hire employees, consultants, copackers and others who will need access to the trade secrets to do their jobs. Thus, it is important to require all such persons to sign confidentiality agreements (also called non-disclosure agreements) committing not to reveal confidential information to unauthorized persons and not to use it for any purpose other than providing the services for which they were hired by the trade secret owner.
A food business’s trademarks may be its most valuable intellectual property. Trademarks — such as brand names and logos — signify that a product or service comes from a particular company. Trademark rights — and the value of the trademark — can be lost if the owner allows other people to use the mark without exercising control over its use. Thus, whenever a food business allows another company or person to use its trademark, it should enter into a written license agreement that specifies the conditions under which the licensee may use the mark. For example, the license may require that the trademark owner approve all uses of the mark in advance and that the licensee adhere to quality control standards. Such requirements protect not only the trademark owner’s rights in the trademark, but also its reputation and goodwill.
Copackers can be enormously helpful to growing food businesses who need outside manufacturing capacity to meet customer demand. But these benefits come with potentially serious risks. What if the copacker fails to make the product to your specifications? What if the copacker causes the product to be contaminated with something dangerous? What if the copacker decides to raise prices significantly without any warning? Risks cannot be entirely eliminated in the food industry, but many can be managed with a good contract. A copacking agreement should clearly spell out the most important aspects of the relationship — such as, the product specifications, what ingredients and other materials are provided by the copacker versus the customer, pricing, minimum order volumes, and quality control and food safety practices to be followed. A copacking agreement should also provide for what happens in the event of a recall and require that the copacker indemnify the customer for problems caused by the copacker.
Distributors play a crucial role in the food industry by giving food businesses access to more customers and broader markets. New and small food businesses often have little bargaining power in negotiating contracts with distributors, especially the larger, national distributors. Even though a food business may feel compelled to agree to a deal with a large distributor, it is important to pay close attention to key provisions of the contract to figure out if the relationship will be beneficial. For example, is the distributor requiring exclusivity, meaning it will be the only one you sell to in a particular region? If so, how is the distributor’s exclusive territory defined? Is the exclusivity limited to a particular product or marketing channel? If the relationship doesn’t work out, can you get out of it so that you can switch to a new distributor?
As another example, what rights will the distributor have to take deductions or allowances off of your invoices or to charge you back for certain costs? Will you be required to buy back product if it does not sell within a certain period of time? Food businesses should not enter into distribution agreements without understanding these common provisions that can eat into or eradicate profits if not planned for in advance.
Like distributors, brokers can be invaluable in helping to grow a food business. When negotiating a contract with a broker, one of the most important terms to consider is compensation — i.e., how will the broker be paid? A commission on the broker’s sales (often in the range of 3–5%) is common. But how will that commission be calculated? Will it be based on invoices issued or revenues actually received? Will the broker receive any other compensation, such as a fixed monthly fee or a minimum commission? Other important contract provisions to consider include exclusivity, termination rights, and the description of services (and minimum level of service) to be provided by the broker.
There are many other types of contracts that food businesses will need at various times — for example, with employees, investors, suppliers and customers — which are beyond the scope of this article. Food businesses always should seek advice of legal counsel, ideally a lawyer who understands the food industry, about whether a contract is needed and what terms it should (and should not) include.
Lauren Handel is the principal attorney of Handel Food Law LLC, a law firm that exclusively serves food, beverage and farming businesses. Lauren’s practice focuses on regulatory compliance and enforcement matters, commercial contracts, and intellectual property.