Contract Analysis and Contract Standards

Standard English to Standard Business

2011-11-07T07:13:00.000-08:00

For many years, the plain or standard English movement has sought to eliminate “legalese.” The term ‘”plain English” is, however, generally disfavored, because the goal is not to “dumb down” legal writing, but rather to use ordinary language in a manner that is readable to professionals. The difference between plain language and clear language is well described by Gail Dykstra of the CLIC Plain Language Centre. She writes:

"'Plain language' is language simplified to make it readily understandable by the average person. It is language stripped of unnecessary complexity, but not stripped of style. It is perhaps language at the lowest common denominator. It is reader-focused language. 'Clarified or simplified language' on the other hand is language that has been worked on to improve its understandability, but retains technical terms (terms of art), if necessary. It can rely on the assumption of commonly held knowledge of how the legal system or government operates in order to understand the language." Plain Language Association International

Applying the lessons to contract analysis, the clarification process is performed in two stages: clear language and clear purpose.

Clarity of language: Clear language is, of course, a worthy goal for its own sake. It also serves to reduce ambiguity, and the potential for dispute. However, it is not easy. It is often faster and easier to draft a stream of consciousness than to clearly and succinctly craft a contract term. Indeed, this was one of the principal motivations for programming a contract analysis application. Software can review a large sample set of clauses and identify the core, standard language (or pre-negotiated language): and distinguish deal-specific terms. In addition, the analysis also finds the frequently used term modifiers. For example, the core language of the authority representation states that “the party has power to enter into and execute the agreement.” The core language often includes modifying terms, such as: “complete power,” “full power,” “requisite power” or “necessary power,” or multiple combinations of such modifiers. In many cases, the modifiers can be removed without altering the meaning.

Clarity of purpose or intent: As we strip legal agreements of their nineteenth century affections, not only does clear modern English emerge, the meaning, or business terms, also becomes evident. For example, we recently worked on an asset purchase agreement. As is frequently the case, the business mechanics transaction appeared to be very complex. From a large set of sample documents, few people could read the agreements and clearly articulate the mechanics of the transaction. By performing the two-stage analysis—which doesn't take long—the business terms pop out from the page.

· What assets are sold and purchased?

· Will payment be made in the form of cash, stock or debt?

· Will full consideration be paid at closing, or will some portion be held back in escrow?

· Will the price be adjusted to account for any difference in the value of the assets between the time of agreement and the close of the transaction?

Each of these elements has sub-elements, which gives me an idea how to further automate contract analysis. And, this will be the subject of the next post, namely, how to design modular, contract building blocks, based on techniques of object orientated programming.

Identifying Core Language—and simplifying contracts

2011-10-10T02:39:00.000-07:00

One of the most important tasks in precedent management is developing model forms containing standard, or core language, offering alternative terms and optional language to cover deal-specific variations.

The key question is how do you identify the core, pre-negotiated language?

In the past we attempted to do this by building precedent collections based on the first draft of agreements. But, since we typically re-purpose documents, this approach is unlikely to succeed because the language of a first draft is very likely to be the terms from the last draft of the re-purposed document.

The better way to identify the core language is programmatically. Software can find and classify each clause type in a set of agreements. Then, by analyzing all the clause examples, we can find common terms, and thereby distinguish deal-specific and divergent terms. In the following example taken from the Oracle-Sun merger agreement, standard terms are shown in green highlight, less frequently occurring terms are shown in yellow highlight, and the deal-specific or divergent terms are shown in red text. In addition, this approach shows that the first clause—Corporate Existence and Power—states that Sun has made available its charter documents to Oracle: terms that would typically be included in a separate clause.

Example Representations from the Oracle-Sun merger agreement

Section 4.01. Corporate Existence and Power. The Company is a corporation duly incorporated, validly existing and in good standing under the laws of the State of Delaware and has all corporate powers required to carry on its business as now conducted. The Company is duly qualified to do business as a foreign corporation and is in good standing in each jurisdiction where such qualification is necessary, except for those jurisdictions where failure to be so qualified would not reasonably be expected to have, individually or in the aggregate, a Company Material Adverse Effect. The Company has heretofore made available to Parent complete and correct copies of the certificate of incorporation and bylaws of the Company as currently in effect.

Section 4.02. Corporate Authorization

(a) The Company has all requisite corporate power and authority to enter into this Agreement and, subject to the Stockholder Approval, to consummate the Merger and the other transactions contemplated hereby. The execution, delivery and performance by the Company of this Agreement and the consummation by the Company of the Merger and the other transactions contemplated hereby, except for obtaining the Stockholder Approval, have been duly authorized by all necessary corporate action on the part of the Company. The affirmative vote of the holders of a majority of the outstanding shares of Company Common Stock voting to approve and adopt this Agreement and the Merger (the “Stockholder Approval”) is the only vote of the holders of any of the Company’s capital stock necessary in connection with the consummation of the Merger and the other transactions contemplated by this Agreement. This Agreement constitutes a valid and binding agreement of the Company enforceable against the Company in accordance with its terms, except as such enforceability may be limited by bankruptcy, insolvency, moratorium and other similar Applicable Law affecting creditors’ rights generally and by general principles of equity.

(b) At a meeting duly called and held, prior to the execution of this Agreement, at which all but one directors of the Company were present and with all directors present voting unanimously in favor, the Company Board duly adopted resolutions (i) declaring that this Agreement, the Merger and the other transactions contemplated hereby are advisable and in the best interests of the Company’s stockholders, (ii) approving this Agreement, the Merger and the other transactions contemplated hereby, (iii) taking all actions necessary so that the restrictions on business combinations and stockholder vote requirements contained in Section 203 of the Delaware Law will not apply with respect to or as a result of the Merger, this Agreement, the Voting Agreements and the transactions contemplated hereby and thereby, (iv) directing that the adoption of this Agreement, the Merger and the other transactions contemplated hereby be submitted to a vote of the stockholders of the Company at the Stockholder Meeting, and (v) making the Board Recommendation.

Section 4.03. Governmental Authorization. ….

Section 4.04. Non-contravention. The execution, delivery and performance by the Company of this Agreement and the consummation by the Company of the Merger and the other transactions contemplated hereby do not and will not (with or without notice or lapse of time, or both): (i) contravene, conflict with, or result in any violation or breach of any provision of the certificate of incorporation or bylaws of the Company, (ii) assuming compliance with the matters referred to in Section 4.03 and that the Stockholder Approval is obtained, contravene, conflict with or result in a violation or breach of any provision of any Applicable Law or Order, (iii) require any consent or approval under, violate, conflict with, result in any breach of or any loss of any benefit under, or constitute a change of control or default under, or result in termination or give to others any right of termination, vesting, amendment, acceleration or cancellation of any Contract to which the Company or any Subsidiary of the Company is a party, or by which they or any of their respective properties or assets may be bound or affected or any Governmental Authorization affecting, or relating in any way to, the property, assets or business of the Company or any of its Subsidiaries, or (iv) result in the creation or imposition of any Lien on any asset of the Company or any of its Subsidiaries, with such exceptions, in the case of each of clauses (ii), (iii) and (iv), as would not reasonably be expected to have, individually or in the aggregate, a Company Material Adverse Effect, provided that in determining whether a Company Material Adverse Effect would result, any adverse effect otherwise excluded by clause (A) of the definition of Company Material Adverse Effect shall be taken into account.

By examining a large data set and finding the standard language, we can quickly identify the core, pre-negotiated terms. Next, we remove duplicate and unnecessary terms, and simplify the language.

1.1. Organization [Party] is duly incorporated, validly existing and in good standing under the laws of the State of [_____].

1.2. Qualification. [Party] has organizational power and legal qualifications to own, lease and operate its properties and conduct its business

1.3. Authority

(a) [Party] [is authorized / has corporate authority] to enter into and perform its obligations under this Agreement, and

(b) the execution, delivery and performance of this Agreement [has been / will be] duly and validly authorized.

1.3. No Violation or Conflict. The execution, delivery and the performance the obligations of this Agreement will not:
(a) result in a violation of [Party]'s certificate of incorporation or bylaws,
(b) result in a violation of any law, judgment or order applicable to [Party],
(c) conflict with, result in a breach of, or constitute a default, or give rise to any right of termination, acceleration or cancellation, under any [material] contract to which [Party] is a party.

Now, isn’t that clearer? In addition, the example is styled with line breaks to improve readability and to better serve as a checklist of deal terms. Based on the standard language, agreements can be conformed to deal specifics by adding additional terms and qualifications, such as materiality or knowledge qualifiers.

Of course, you can do this manually, without the aid of technology. However, I have seen numerous instances where even after countless hours of review by highly qualified attorneys, initiatives to create model forms:

(a) fail to identify the core language,

(b) contain duplicate or over-lapping terms, and

As the old adage illuminates, technology guides us to “see the forest for the trees.”

Contract Analysis: Standard and Negotiated Terms Measured by Commonality and Consistency

2011-09-07T04:05:00.000-07:00

The last post reviewed the top negotiated and disputed terms determined by a survey conducted by the IACCM. The survey revealed a surprising difference in viewpoint between negotiators and business managers.

The survey prompted further thought on whether statistical analysis can identify key contract clauses.

The statistical tools used in contract analysis identify the most commonly occurring clauses and the most similar clauses. Plotting these two measures in a matrix creates the quadrants shown the diagram.

· The upper-right quadrant—standard clauses—contains frequently occurring, consistent clauses. Examples of such clauses should include so-called “boilerplate” provisions. However, as the analysis can also show, such boilerplate provisions may, in fact, exhibit wide variation in language.

· The upper-left quadrant—negotiated clauses—contains commonly occurring, divergent clauses. These are clauses that appear in most agreements, but contain different language. Such language variation may occur due to negotiation between the parties creating different terms, or it can be attributable to different drafting customs and personal preferences. For example, the purchase price clause in an acquisition agreement will likely exhibit wide variation across a set of documents. However, similar degrees of variation can also be found in a severability clause.

· The lower-right quadrant—transaction-specific clauses—contains clauses that do not occur frequently, but when they are found contain consistent language. A good example of a transaction-specific clause is “The Offer” term found in a set of merger agreements. This term may appear in about 20% of the agreements—indicating that such transactions are structured as a tender offer. In these cases, the language will likely be very consistent.

· Finally, the lower-left quadrant—deal-specific clauses—contains infrequently occurring clauses that display wide language variation. These are clauses that are custom-tailored to a particular transaction.

However, not all clauses fit neatly into this schema. Clauses that should contain consistent language are often, in practice, highly variable. In large part, this background divergence can be attributed to custom and personal drafting preferences. Indeed, this is very evident when analyzing documents from a large number of different organizations, compared to a set from a single law firm or corporate legal department. The more varied the source of the documents, the more diverse the clauses and the language. Of course, the fact that divergence increases with the diversity of the source set should not be surprising because they will contain a wider range of drafting customs and personal preferences. They key point is that as divergence increases above a certain threshold, the usefulness of the statistics is reduced.

Using a set of documents from a single law firm, the analysis can identify the top 10 most frequently occurring, divergent clauses. Once again the study reveals a number of surprises.

Top 10 Negotiated or Variable Clauses from a Set of Merger Agreements

1. The Merger / Effects of the Merger

2. The Merger / Directors

3. General / Severability

4. General / Counterparts

5. General / Non-Survival of Representations and Warranties

6. General / Waiver of Jury Trial

7. Representations and Warranties of the Company / Information Supplied

8. General Provisions / Interpretation

9. Representations and Warranties of Parent and Sub / Information Supplied

10. Termination / Effect of Termination

It is frequently the case that the most divergent clauses are found in the first few representations and warranties and in the general provisions. As further posts will examine, these differences are largely due to personal preferences and the use of compound and overlapping clauses (See, post Contract Readability -- Part 2 for definitions of compound and overlapping clauses).

The wide differences in language also indicates that these are the clauses where attorneys are spending significant time in contract drafting. However, few would assert that all these provisions are the most significant terms in the agreement. In fact, with rare exceptions, few of the top 10 negotiated or highly variable clauses will appear on the IACCM’s most disputed clauses list.

Top Negotiated and Disputed Contract Terms (IACCM Survey)

2011-08-30T04:06:00.000-07:00

The IACCM 10^th Annual Survey, 2011 Top Terms in Negotiation, contains a wealth of information about the state of contracting. It reveals a clear difference between the top negotiated terms and the top terms subject to claims and disputes.

The authors see the disparity caused by a tension between negotiators and business managers. The survey reveals that negotiators focus on disputes and the consequences of claims; while business managers seek to manage the ongoing relationship between the parties. According to the survey, negotiators focus on “asset protection and the consequences of failure.” Business managers, on the other hand, seek “clarity over scope and goals and over the on-going governance and management procedures for the relationship.”

Top 10 Negotiated Terms	Top 10 Disputed Terms
1. Limitation of Liability	1. Delivery / Acceptance
2. Indemnity	2. Price / Charge / Price Changes
3. Price / Charge / Price Changes	3. Change Management
4. Intellectual Property	4. Invoices / Late Payment
5. Payment	5. Performance / Guarantees / Undertakings
6. Liquidated Damages	6. Service Levels and Warranties
7. Performance / Guarantees / Undertakings	7. Payment
8. Delivery / Acceptance	8. Responsibilities of the Parties
9. Applicable law / Jurisdiction	9. Liquidated Damages
10. Confidential Information / Non disclosure	10. Scope and Goals

Key points in the survey:

1. Effective contract negotiation requires a clear understanding of the differences between consequences and probabilities. Too often negotiators delve into all possible risks without assessing the likelihood that such outcomes will in fact occur.

2. Effective contract negotiation should focus more on reducing the probability of failure as opposed to addressing the consequences of failure. The authors comment on the fact that acceptance / delivery tops the list of disputed terms, saying: “It is quite an indictment of our contract management processes if the first time we do anything serious about non-conformance is when it reaches the acceptance / delivery phase.”

3. The root cause of the divergence can be attributed to key disputed terms—change management together with scope and goals—that do not appear in the top negotiated terms. The authors assert that this is evidence that “the goals of the relationship are not clearly spelt out (or that changes are not adequately thought through); that the scope is therefore frequently misaligned with the goals (or itself badly written).”

4. The study concludes by stating that in the future: “[c]ontracts will become vehicles for defining and managing relationships as well as the tool through which transactions are undertaken.”

Reflecting on the survey, the unified contract structure should be revised to capture the importance of relationship management. The majority of contracts governing an ongoing relationship handle asset protection in the covenants section and consequences of failure in the events of default or termination provisions: they rarely contain relationship management terms. Drafters interested in including such terms can refer to governance language in master services agreements.

Clause Elements

2011-07-18T05:29:00.000-07:00

Each time I review a set of clauses for the Clause of the Day, I am stuck by their common features, even though the source material is drawn from a wide range of different agreement types, drafted by different firms, for different clients.

The clauses all share common characteristics. They frequently use the same terms of art or common phrases.

Deeper analysis shows that they are composed of common sub-elements. For example, the Non-Disclosure Obligation in confidentiality agreements contains four components: (a) confidentiality, (b) non-use; (c) non-disclosure; and (d) protection of information. The Conduct of the Business clause in acquisition agreements typically contains four elements requiring the seller to: (a) conduct business in the ordinary course consistent with past practice; (b) preserve its business organization (or assets); (c) keep its directors and employees; and (d) keep its customer and supplier relationships and preserve the goodwill of the business.

Clauses, just like the agreement as a whole, are a checklist of elements, detailing required and optional clause terms.

Of course, the existence of common features is really not surprising. The clauses are all seeking similar objectives. The language has evolved over time, much like common law, into a well used reference. But while, commonality exists, it has not been codified.

By contrast, in the field of architecture, design and build standards are codified. MasterSpec, by ARCOM, provides comprehensive documentation that “automates specification production tasks and simplifies creating custom office masters for specific regions, clients, and products.” (MasterSpec). My architecture friends tell me that standards are required because the lawyers would otherwise sue them.

Analysis of clause elements highlights the value of precedent and the related contentious issue of garbage-in; quality-out. Words are important. Precedent is important. What is included (or omitted) in the clause is just as important as how the language is expressed.

Organizing the Covenants Article in Legal Agreements

2011-07-05T05:51:00.000-07:00

A covenant is an agreement to perform, or to refrain from performing, a specified action. It exercises a continuing interest over an asset, property interest, or performance obligation. For example, a covenant on real estate "running with the land" imposes restrictions upon the use of property regardless of the owner. Covenants may be applied to a property license (e.g. a software license,) or a license to use money (a loan), or a license to use real property (a lease) to limit the use of the asset. A covenant can also be applied to a performance obligation to restrict the actions of a party bound by the covenant, such as a non-compete provision.

The covenants article in legal agreements is, however, frequently unorganized. Related provisions may not be located near each other making it difficult to determine if the article contains all required clauses and does not contain duplicate or overlapping provisions.

Where a high-level organizing theme is found, it is sometimes an arbitrary classification that cannot neatly group all the terms. For example, where a pre-closing/post-closing classification is used, where should the confidentiality covenant appear? An analysis of legal agreements shows that the Covenants article is generally grouped into 5 different, high-level organizing themes:

Single Covenants Section
Covenants and Additional Agreements
Covenants of the Seller and the Buyer
Affirmative and Negative Covenants
Pre-Closing and Post-Closing Covenants

An alternative classification considers the purpose or goals of the covenants. While some goals may overlap and serve multiple purposes, the principal objectives are:

Perform actions to consummate the agreement
Keep the parties informed
Preserve and protect property
Comply with laws, regulations and obligations
Limit or control actions

Applying this scheme, ContractStandards proposes the following organizing theme that can be applied to all agreements.

1. Perform Actions (Consents, Approvals and Filings)

1.1. Best Efforts
1.2. Cooperation
1.3. Consents and Approvals
1.4. Stockholder Meeting (Approval)
1.5. Third Party Consents
1.6. Regulatory Filings
1.7. Governmental Approval
1.8. Securities-Related
1.9. Listing Approvals
1.10. Exclusive Rights
1.11. Fees and Expenses
1.12. Assistance

2. Information and Notification

2.1. Access to Information
2.2. General Information Obligation
2.3. Financial Statements
2.4. Information Regarding Collateral
2.5. Title Information
2.6. Casualty and Condemnation
2.7. Notice of Developments
2.8. Notice of Default
2.9. Notice of Litigation
2.10. ERISA Notices
2.11. Environmental Notices
2.12. Regulatory Notices
2.13. Officer’s Certificates
2.14. Inspection

3. Business and Operations

3.1. Corporate Existence
3.2. Charter Documents; Amendment of Material Documents
3.3. Nature of the Business; Lines of Business
3.4. Conduct of the Business (Ordinary Course)
3.5. Goodwill
3.6. Company Name; Company Headquarters
3.7. Maintain Books and Records
3.8. Accounting Changes
3.9. Fiscal Year; Fiscal Quarters
3.10. Limitations on Changes; Fundamental Changes
3.11. Ownership of Subsidiaries
3.12. Transactions with Affiliates

4. Equity; Ownership Interests

4.1. Capital Structure
4.2. Transfer of Equity Interests
4.3. Dividends; Distributions
4.4. Issuance of Securities
4.5. Stock Option Plans
4.6. Capital Expenditures
4.7. Restricted Payments

5. Assets

5.1. Acquisition of Property
5.2. Disposition of Property
5.3. Limitations on Leases
5.4. Limitations on Sale Leasebacks
5.5. Maintain Properties
5.6. Maintain Insurance
5.7. Intellectual Property

6. Liabilities

6.1. Pay Obligations
(a) Payment of Taxes
(b) Payment of Debt
6.2. Limitations on Indebtedness
(a) Leverage Ratio
(b) Fixed Charge Coverage Ratio
(c) Liquidity
6.3. Subordinated Debt
6.4. Limitations on Liens
6.5. Limitations on Loans, Advances and Investments
6.6. Limitations on Guaranty Obligations
6.7. Limitations on Contingent Obligations
6.8. Limitation on Negative Pledges
6.9. Limitations on Swap Agreements / Hedging
6.10. Restrictive Agreements / Burdensome Agreements
6.11. Protection of Lender’s Priority Status
6.12. Additional Collateral
6.13. Additional Guarantors
6.14. Pledged Assets
6.15. Appraisals

7. Personnel & Employment

7.1. Compensation
7.2. Employee Benefit Plans
7.3. Directors and Officer’s Insurance
7.4. Resignation of Directors
7.5. Severance Arrangements
7.6. Employee Matters; Hiring Employees
7.7. Employee Inventions Agreements
7.8. Employee Confidentiality Agreements

8. Compliance with Laws and Obligations

8.1. Comply with Laws and Regulations
(a) Environmental Compliance
(b) Bulk Sales Law
(c) Blue Sky Laws
8.2. Comply with Agreements and Obligations
8.3. Performance of Obligations

9. Use of the Transferred or Licensed Asset

9.1. Use of Proceeds
9.2. Restrictions on Use of Licensed Property

10. Restrictive Covenants

10.1. Confidentiality
10.2. Non-Competition
10.3. Non-Solicitation of Business
10.4. Non-Solicitation of Employees
10.5. Non-Disparagement
10.6. Enforcement
10.7. Acknowledgement
10.8. Publicity and Announcements

11. Further Assurances

11.1. Further Assurances
11.2. Disclosure Supplements

Garbage-in, Quality-out

2011-06-26T15:44:00.000-07:00

The common think expression “garbage-in, garbage-out” is often thrown out without any vigorous thought. Proponents believe it just has to be true.

First, I have to agree with Charles Babbage who famously said: "On two occasions, I have been asked [by members of Parliament], 'Pray, Mr. Babbage, if you put into the machine wrong figures, will the right answers come out?' I am not able to rightly apprehend the kind of confusion of ideas that could provoke such a question."

Second, if we do try to make some sense of the concept, the expression can hold true only if all the source materials are completely rubbish. I believe there is much to be learned from all sources of information. If there are any gems in the collection, then there is the possibility that “good” material can be identified. Indeed, we are all exposed to an enormous amount of data. How well we process this information depends on the sophistication of our filters. And, machines can also develop filters. IBM’s Watson, the Jeopardy playing computer, deduced mostly correct answers from unwashed Internet resources—and it trounced its human competitors.

Third, while the expression has been applied to legal agreements, such as those filed on EDGAR, for my part, I do not think of any of them as garbage. They are precedents. They are expressions of real transactions.

Fourth, common thinkers tend to fixate on language, sometimes debating the difference between ‘will’, ‘shall’ and ‘must’. While this is important, there are many other dimensions to legal agreements, including—and most importantly—the application of legal terms to business transactions. In fact, it is not uncommon for those focusing on the words to miss some key clause or accidentally duplicate clause language. Without a broader view—a checklist—“we cannot see the forest for the trees.”

Fifth, and most importantly, we can now see the power of aggregation and filters in practice. Contract analysis reviews a set of agreements and determines how the document is organized, what clauses it contains, and the range of standard and non-standard language. The first task of contract analysis is to aggregate all the source documents into one common outline, creating the agreement checklist. Next, the analysis finds all the matching clause elements, and for each branch of the outline, it constructs a clause library. Finally, algorithms examine all the clauses and identify the core (non-negotiated or deal neutral) language for each provision, together with the full range of deal-specific or alternative terms.

When creating a new model form, the process will sometimes start by identifying the most conforming document in the set: the one containing the most common clause elements and the most standard language. This is done for reasons of expediency. If we start with single conforming document, then we can spend less time normalizing the clause language, and particularly the definitions. (See The Fastest Way to Create a Form).

However, situations arise where we do not find a good (or conforming) document containing all the standard elements of a transaction. These situations are quite apparent from the software analysis. The software shows the source agreements are highly divergent in structure and content. If there are no good examples, then we can assume that we face a situation of sub-optimal source documents. In this case we can use contract analysis to identify the most common deal elements and for each provision find the most conforming clause. The remarkable result is that while no one document represents best practice, the aggregate of all documents does. Or, to end with another bumper-sticker expression: “we are smarter than me.”

In conclusion, part of reason for a shift from wordsmithing to transactional analysis is an expanding world view. When our world is limited to handful of precedents that we personally drafted or gathered from trusted colleagues, this tiny universe can be carefully dissected word-by-word. In the last few years, our universe has massively expanded to include all documents filed on EDGAR, enormous volumes financial transactions, and vast collections of agreements generated from an interconnected global marketplace.

We cannot be masters of the digital universe based solely on our personal reading experiences.

Intellectual Property Rep

2011-06-24T06:17:00.000-07:00

The Intellectual Property Representation (on ContractStandards) appears to have been built over time, incrementally adding more and more language. All clauses example share common elements, such as the disclosure of registered IP, declaration of rights of ownership and representations regarding non-infringement. However, with respect to less frequently appearing clause elements there is a very wide range of optional provisions and little consistency in their occurrence. The result is a listing of overlapping representations, without a clear reference to what technology platforms they apply, other than a generic concept of “intellectual property” that spans everything from inchoate ideas to commercial software packages.

The proposed organizing theme (a work in progress) builds the clause components from a business framework, offering a matrix of configurable clause components that can be inserted if applicable to the representing party.

	Disclosure	Ownership	Warranties	Sufficiency	IP Protection	Compliance
Proprietary IP
Registered IP	ü	ü		ü	ü	ü
Commercial IP	ü	ü	ü	ü	ü	ü
Proprietary Operational IP	ü	ü	ü	ü	ü	ü
Conceptual IP					ü	ü
Licensed IP
Licensed Operational IP	ü		ü	ü	ü	ü

Registered IP: patents, trademarks, copyrights, and domain names protected by registration.

Commercial IP: intellectual property products and services sold or licensed.

Operational IP: intellectual products, services and content developed, commissioned, acquired or customized used to manage business operations, separated into commercially available technology and customized technology. Operational IP may be owned or licensed.

Conceptual IP: inventions, ideas, concepts and trade secrets.

(Note: optional clause language should be added whether the representing party has re-seller or distribution rights to IP owned by a third party).

Using the framework, the IP representations can be applied to each definitional category, adjusting the reps appropriately based on proprietary rights. For example, in the case of an acquisition agreement, warranties given for commercial IP (out-bound license agreements) should mirror the warranties in the party’s software license agreements. However, there are frequently significant differences between the warranties offered by a business to its licensees (typically very limited) and the warranties given by the same company to a buyer of the business (often including performance and error-free warranties). On the hand, warranties given for licensed software used to run a business (in-bound license agreements) and customized technology may require that the technology is substantially error-free.

Developing CAD for Law—Part 2

2011-05-18T04:19:00.000-07:00

Contract Building Blocks

There are two main approaches to document automation. First, a Programmatic approach inserts If-Else-Then statements into a document to select different deal terms based on configuration options. Second, a Modular approach constructs an agreement from a hierarchy of standard and alternative sentences, clauses, and document sections.

At first blush, the approach of creating standard and a range of alternate provisions likely repeats much of the same core terms, thereby producing significant duplication of language. While this is true, the burden is borne by the computer. On the other hand, the approach of embedding If-Else-Then statements into lengthy documents becomes exceedingly challenging where the statements are nested inside one another, sometimes spanning many pages. This burden of complexity is borne by the human operator. As a programmer, I think of the programmatic approach as very brittle and highly susceptible to error.

This same rationale caused a shift many years ago in computer languages away from linear approaches—such as the C language—to modular, object-orientated programming in C++ and C#, widely used today.

Moreover, the modular approach most closely reflects the organizing structure of legal agreements. Contracts are organized in a consistent modular hierarchy. Each agreement has an explicit or implicit table of contents. Collectively, they organized upon similar building blocks. For this reason, ContractStandards proposes a Unified Contract Structure for organizing bi-lateral exchange agreements.

A modular hierarchy is an approach that allows us to handle highly complex systems, such as an organizing framework for all legal agreements. In his seminal work, The Architecture of Complexity, Herbert Simon demonstrates that hierarchy is the organizing theme for a science of complexity. His parable—written nearly 50 years ago—of the watchmakers is highly relevant to our current needs to address complexity, efficiency, but without sacrificing quality.

“There once was two watchmakers, named Hora and Tempus, who manufactured very fine watches. Both of them were highly regarded, and the phones in their workshops rang frequently. New customers were constantly calling them. However, Hora prospered while Tempus became poorer and poorer and finally lost his shop. What was the reason?

The watches the men made consisted of about 1000 parts each. Tempus had so constructed his that if he had one partially assembled and had to put it down—to answer the phone, say—it immediately fell to pieces and had to be reassembled from the elements. The better the customers liked his watches the more they phoned him and the more difficult it became for him to find enough uninterrupted time to finish a watch.

The watches Hora handled were no less complex than those of Tempus, but he had designed them so that he could put together sub-assemblies of about ten elements each. Ten of these subassemblies, again, could be put together into a larger subassembly and a system of ten of the latter constituted the whole watch. Hence, when Hora had to put down a partly assembled watch in order to answer the phone, he lost only a small part of his work, and he assembled his watches in only a fraction of the man-hours it took Tempus.”

Once the modular hierarchy is established, which allows selection of the core contract building blocks, a CAD system for law must then permit fine tuned configuration of deal terms tailored to client-specific needs. And, that will be the topic of the next blog post.

Developing CAD for Law—Part 1

2011-04-25T04:51:00.000-07:00

Unified Contract Structure

One of the core characteristics of a computer aided drafting (CAD) system is the development of modular, reusable building blocks. Just as computer programming progressed from linear, procedural methods of languages such as C to the object-orientated programming methods of languages like C++, CAD will break the silos of discrete document types and construct agreements based on modules.

I propose a Unified Contract Structure (UCS) based on 10 contractual building blocks reflecting the organization of clauses in bi-lateral and multi-lateral exchanges. The USC is comprised of the 10 core objects, a listing of document types, cross-referenced to a hierarchical clause library of terms and provisions. The result is a Contract Matrix.

It is hoped that in addition to reusability, the matrix can help contract drafters “see the forest for the trees.” This is one of the reasons why Atul Gawande’s 3 part Operating Room checklist can reduce surgical complications by one-third. Click here to view the Surgical Safety Checklist.

Design and Production—Separate Values

2011-04-04T06:40:00.000-07:00

Richard Susskind and others predict the inevitable commoditization of legal services through the twin pressures of automation and competition. I agree in principle. However, I do not see the trend as an across-the-board reduction in value, but rather a process that separates high and lower value activities.

Others, notably Ron Friedmann, Toby Brown and Jordan Furlong, have focused on the difference between types of representation. They distinguish high-value bet the farm situations from low-value factory work. However, in any representation there is some proportion of high value design work and some elements of lower value production activities, even in high risk matters.

In practice today, rates are determined primarily by who does the work rather than the nature of the work. It is true that most deal structuring is performed by higher priced partners and most document drafting is undertaken by somewhat lower cost associates. Nevertheless, each lawyer, across the entire billing rate spectrum, generally charges the same rate for structuring a transaction, drafting a document, or typing an email (Rate ranges are applied at the matter level, not the task level).

More significantly, over time production costs have increased. It is true that transactions have become increasingly more complex, requiring more time to prepare. But if we examine a related profession—architecture—we can see different approaches to cost control and different outcomes where risks are borne either by the profession or the client.

1940’s

Architecture--75 years ago, when Frank Lloyd Wright designed Falling Water, there was no separation between building design and production of the working drawings.

Design and production was one and the same process. The famous architect oversaw all the details, even designing the tables, chairs and door knobs. And, since the activities were blended, the fee for his services was likely charged at one aggregate rate.

1980’s

Law--When I first started practice in a venerable London firm of solicitors, I marveled at the ability of the partners to dictate a will and other legal agreements in one session; with corrections only in the form of backing up the tape. Likewise, secretaries typed wills flawlessly. In fact, corrections—in the form of whiteout—were not allowed. The page had to be re-typed.

Structuring the will and producing the document was a single activity. Accordingly, a single blended rate was justified because design and production were combined. Moreover, the entire process was completed in a few hours.

With the introduction of computers, we can now refine our documents through multiple drafts. And, by drawing on available precedent, lengthen our agreements to cover all possible scenarios. Litigation has embraced a scorched earth approach, leaving no stone unturned and every document read; cumulating in today’s electronic discovery, which has massively increased the volume of documents reviewed.

Architecture—In the 1980’s, pressure to control soaring production costs shifted squarely to the profession as fixed fees were introduced and widely applied. Even as buildings became bigger and more complex, the challenge to control costs was born largely by the profession.

2010’s

Architecture—In architecture today, design and production is automated with sophisticated computer aided design (CAD) software. Powerful technologies, such as Autodesk’s Revit, allow design-and-build to take place simultaneously, and in a relatively short period of time. Building specifications are highly standardized through content services, such as ARCOM’s Master Spec.

Despite heavy automation, friends in architecture practice confirm that fixed fees arrangements sometimes have the effect of decreasing the return on design work. This situation may occur because production tasks must be completed in order to finish the work and submit a bill; and since production runs lean with lower margins, there is frequently pressure to take value from the design tasks—yet design is what distinguishes the project and the firm.

Law—Law operates in a largely unautomated world. Computer assisted drafting has not been broadly implemented. Email and blackberries do not count as automation systems. As a result, lawyers continue to command high rates for drafting, reviewing and editing documents. The act of crafting the deal and drafting the documents is still one-and-the-same process. Moreover, the amount of time spent producing supporting documents and other materials has steadily, and significantly, increased over time, with the full burden of these cost increases borne by clients.

Of course, you can hear the collective chorus pointing out that the “devil is in the details” because the art and soul of lawyering is to handle every consequence no matter how unlikely, because some consequences can be very, very bad. But, I wonder if the same opinion would be voiced if fixed fees became the norm.

Next…True CAD is coming to law. It is a manner of when. The burden to control costs is also shifting to the legal profession, who, like architects, are in a better position to implement technologies and processes to more efficiently manage production tasks because of their professional expertise.

The challenge for law firm leaders is to assess what percentage of their current workload falls into lower value categories and how will this work be handled? Should it be out-sourced or in-sourced? Or, will innovation be lead by emerging law firms, content providers and technology firms?

In the next post, I’ll attempt to define what it takes to develop true CAD for law (at least for transactional practice), and estimate the time needed for its development.

Does it compute?

2011-03-14T05:31:00.000-07:00

Last week, the Business Law Prof Blog posted a review of three trends affecting future practice: outsourcing, automation and Internet resources. Reaction was typified by statements to the effect that less than 1% of legal services could be served by outsourcing, automation, or internet resources.

In the context of automation, two areas of expertise are required to make such a statement: (a) knowledge of the practice of law; and (b) knowledge of the capabilities of technology.

And, herein is the difference between silicone and carbon. A computer requires at least some data to compute; a human can opine based on incomplete information.

Some Observations on the Nature of Contract Drafting

2011-02-28T04:22:00.000-08:00

It is time to be more controversial. I’ll start with my favorite quote on contract drafting written by one of the greatest jurists in modern times. Lord Denning, in his Romanes Lecture, From Precedent to Precedent, given at Oxford in 1959, said:

“[Lawyers] will so often stick to the letter and miss the substance. The reason is plain enough. Most of them spend their working lives drafting some kind of document or another – trying to see whether it covers this contingency or that. They dwell upon words until they become mere precisians in the use of them. They would rather be accurate than be clear. They would sooner be long than short. They seek to avoid two meanings, and end – on occasions – by having no meaning. And the worst of it all is that they claim to be the masters of the subject. The meaning of words, they say, is a matter of law for them and not a matter for the ordinary man.”

I submit the substance of drafting lies is in the configuration of the agreement and its clauses as much as the precise choice of words. Having spent a number of years working on the empirical analysis of contracts, I can share a number of observations.

1. There are just a handful of contract clauses that are critical

These are the terms that define a transaction—the highly negotiated clauses that the parties seek to negotiate in their favor. Profusek and Ganske state the matter plainly: “Many lawyers no longer add real value to dealmaking. That's perhaps a startling and somewhat harsh allegation - especially from a couple of M&A lawyers - but we're afraid it's true.” It's Time To Rethink The Lawyer's Role In Dealmaking: Start By Facing Up To The New Realities, Metropolitan Corporate Counsel, December 1, 2007. The Jones Day partners assert that: “Half of the words merely repeat what has been said somewhere else. Really now, has anything bad ever happened because all the Form 5500s weren't filed? Half of the remaining paperwork is boilerplate, leaving only a handful of provisions that are important: the money, closing, social, and fiduciary provisions.” Supplementing this practitioner’s viewpoint, I can add that technology will soon be able to detect the valued terms, and by deduction identify the less important provisions.

2. All contract clauses have a standard set of terms

Contract analysis can find the core, pre-negotiated language by indentifying the common terms and distinguishing deal-specific or negotiated terms. Applying this technology, it can be seen that differences between individual clauses are mostly semantic—the language may differ in clarity, format and voice—but any lawyer or judge will recognize its intent, no matter how imperfectly or inarticulately drafted. Of course, there does come a point when a clause is so poorly drafted that—even if you know what it is trying to say—it cannot be given is normal interpretation, because it is excessively vague or open to too many different interpretations.

3. The clause standard is not party neutral

Standard clause language is not evenly balanced between the interests of the parties. Clause weighting in favor of one party or another varies with each agreement type. For example, the ISDA master document is evenly balanced. An employment agreement is typically weighted in favor of the employer; while an end user software license agreement is heavily weighted in favor of the licensor. For example, Florencia Marotta-Wurgler analyzed 647 license agreements, plotted their bias on a standard distribution curve, and found that the agreements are typically weighted in favor of the sellor. What's in a Standard Form Contract? An Empirical Analysis of Software License Agreements, New York University Law and Economics Working Papers, July 29, 2008.

4. Clause variations add or subtract language elements

Clause variations shift the benefits and burdens in favor of one party or another by adding or subtracting terms from the standard. For example today’s clause of the day on theContractStandards web site illustrates the options in a non-competition clause.

5. There are relatively few substantive variations for each clause

While there are an infinite range of semantic variations, there are typically less than five substantive variations within each clause.

Conclusions

If these observations are correct, then we can draw a couple of conclusions.

1. There is not a single, optimal clause. Rather, all clause examples represent a point on a continuum from being favorable to one party or another. While is helpful to propose optimal clause language, it is more useful to understand what is market standard and what are the optional variations.

2. Document assembly may not be the best approach to automating document production, because it is very unlikely that anyone can develop a set of logical rules in advance to set the appropriate language modifications. The final document is more likely the product of a negotiation.

New Web Site--Contract Standards

2011-02-14T03:06:00.000-08:00

KIIAC LLC (KIIAC) announces the launch of ContractStandards.com, a web site that seeks to collect and share global contract standards, document automation tools, and provide a framework for collaborative development. The site’s mission is to openly share contract standards—transaction analysis, checklists, and clause libraries—in an effort to establish global contract norms. It is hoped readers will share their knowledge through comments, practice guidance and other contributions.

Contract Standards will also develop and share document assembly tools. The initial suite of tools is provided by KIIAC under a General Public License. All participants are invited to suggest new features, propose support for different platforms, or enter into a discussion of document automation in the legal profession. It is further hoped that some individuals and organizations may contribute development resources to further refine the tool set.

The site will feature a “clause-of-the-day” showing the standard clause language determined by statistical analysis of documents filed on EDGAR, together with a range of clause variations.

Please visit the site. Better still, contribute.

Step 7. Markup—Model Document for Assembly

2011-02-11T03:50:00.000-08:00

Task: Prepare document for assembly by replacing client-specific information with text variables and options that can be automatically configured to client-specific needs.

Once the form has been reviewed and edited, it may then be marked up for automated document assembly. Some firms may automate the document using commercial software, such as HotDocs, DealBuilder, Exari or BrightLeaf; others may utilize a Microsoft Word macro to quickly conform a document to specific client needs.

The automation steps may include:

Links to online clause libraries
Links to online practice guides deliveries through a Wiki
Tools to automate selection of alternate clauses and optional language with Word macro

For those firms that have not developed a macro, kiiac will release a Word automation tool into the public domain in late February. This macro has the capacity to handle text variables (names, dates and amounts, etc.) optional text and questions. It is hoped that by releasing the code under a General Public License, readers will propose new features, and some firms or developers may assist with further development.

When the macro is released, a link will be added to this blo post.

Step 6. Edit—New Form Document

2011-02-11T02:59:00.000-08:00

Task: Review and edit clause language to ensure best practices.

Lawyers should review the new form document to ensure all clauses conform to best practices. This step is, of course, time-consuming and exacting. However, techniques are available to reduce the time required and ensure quality.

Source: Where the new form—created in step 5—is an existing template, perhaps created in an earlier effort at standardization, it is possible to mark the source of each clause, allowing the reviewing attorneys to focus their time on the alternative clauses drawn from different source documents and spend less time on the previously reviewed template clauses.

Clause Standardization: One of the most effective methods to ensure high quality forms developed in the most efficient manner possible is to standardize clause language across different document types. Standard clause sets can be built for the Representations, Warranties, Covenants, Conditions and Miscellaneous sections of the agreement. In some cases, different clause variants must be used. For example, the assignment clause may permit transfer of contractual rights in the purchase of commodity assets, but will not permit assignment of a personal service contract. This modular approach is effective because there are a relatively small number of common clauses and a small number of common variations.

Once the document is edited, it can be added to the template, analyzed by the software and all its clauses marked as the new default clauses and alternative provisions.

Review Tools for Language Review

Online cluase editor tools

Microsoft Word document containing most conforming document clauses, and where divergent, the most conforming clause (from all documents) as an alternative clause

Step 5. Generate—Base Document and Clause Alternates

2011-02-10T10:38:00.000-08:00

(a) Select Base Document(s)

Task: Identify the base document or documents upon which to build a standard form.

A highly conforming base document is typically selected as a starting point for a new form because all of its clauses and definitions will have been drafted to work together, thereby eliminating additional work to conform language if the clauses were selected from different source documents. This document is also analyzed to assess whether it also represents a de facto standard, based on whether it is widely used by different lawyers and offices (i.e. there are a number of similarly constructed documents).

If a de facto standard base document is not found (which is rare), further research may be conducted to determine if there are multiple base documents (perhaps used for different types of transactions or in different jurisdictions). Alternatively, the review team may determine to standardized on one source document, not necessarily the most conforming, or to standardize on a published form (such as an ABA model form).

Review Tools for Document Organization
Online document review (select Source Document List from View menu):

(b) Choose Clause Alternates

Task: Determine the standard and alternative clauses that will available in the new form.

Missing Clauses: Identify the clauses in the most conforming document that might be missing from the standard established by all source documents. These are clauses that occur frequently in the document set, but are absent in the most conforming document. Determine whether to add the most conforming clause from the clause library or different clause example, if desired.
Divergent Clauses: Identify the clauses in the most conforming document that diverge from the standard core language established by all source documents. These are the clauses that may be missing some standard language or may contain deal-specific language. Determine whether to replace these clauses with the most conforming clauses or another clause example, if desired.
Weighted Clauses: Optionally identify additional clauses from documents drafted in favor of one party. This process can be quickly performed by finding “marker” clauses indicating pro-buyer or pro-seller situations. For example, an “as-is” warranty will likely reflect a pro-seller document. All clauses in this document can then be tagged as pro-seller and selected for output in the initial form document.

Review Tools for Clause Selection

Online document assembly template
Microsoft Word document containing most conforming document clauses and the selected alternative clauses, displaying information why such clause was selected (e.g. pro-buyer)

(c) Assemble Initial Form Document

Task: Create an initial form document for attorney editing, containing the clauses from the base document, missing clauses, and alternate clauses.

Select clauses for inclusion in the initial form and assemble the document. By default, the document will contain embedded links to the clause libraries.

Step 4. Review—Template

2011-02-10T09:38:00.000-08:00

Task: Review document outline with lawyer-sponsor and confirm it is appropriately organized.

Is it organized appropriately?
- How many levels should the outline contain?
- Should the outline contain all clause types, or just the most common?
- Should uncommon clauses be grouped into one bucket?
Does it combine appropriate clauses together?
Does it contain any duplicate provisions?
Is it organized in the correct sequence? (lawyer)
Does it contain all required provisions? (lawyer)

Sample Issue 1: the source documents variously contain sections titled Covenants, Covenants of the Buyer, Covenants of the Seller, Additional Agreements, etc. Should these sections be combined into a single provision titled Covenants? The answer will be found by determining whether similar clauses appear in each section. If the answer is yes, the sections are overlapping and may be combined into a single section.

Sample Issue 2: the source documents contain numerous variations of a Further Assurances clause, sometimes found in the Sale and Purchase, Covenants and Miscellaneous sections. By examining the language, it can be determined if these clauses are duplicates, and, if so, the clause frequency statistics can be used to determine the location of a single instance of the clause in the template outline.

Review Tools for Document Organization and Quality Control

(a) Outline (Document Checklist): Available online by selecting Outline from the tab menu or through an Excel report. These tools are used to review document organization and determine whether each outline provision is constructed from the correct building blocks. This review is performed by examining the alternate captions or, in other words, the names of sections aggregated into a template section. For example, a Miscellaneous section may be built from sections in other documents titled General Provisions or Other Provisions.

Does the outline contain appropriate number of levels? Does a section have too few clause examples to warrant the addition of a deeper level?
Is the list of clauses in a section too long? Should clauses having 2 or 3 examples only be grouped into an ‘additional clauses’ category at the end of the section?
Are the clauses correctly combined? Review the list of alternative captions. Are they similar? If not mark the section for further lawyer review.

(b) Index (Clause List): Available online by selecting Index from the Tab menu or through an Excel report. These tools are used to review the clause list and determine whether each clause is captured in the correct outline section and to check for possible clause duplication.

Are there similar clause captions in the list?
Does a clause appear in two different sections of the document?

(c) Confidence: The Excel report also provides information regarding the program confidence that the software has identified a good set of clause matches. Following the caption, the report indicates the total of number of matching clauses. It also shows the number of clauses that are strong matches and the number of clauses that are weaker matches, because the clause has less text matches and/or is located in a different section of the document compared to the strongly matched clauses. This information can be used to determine which clauses section warrant further attorney review.

Step 3. Organize—Process Template

2011-02-10T09:26:00.000-08:00

The organization step captures information about the document (such as title, parties, and jurisdiction), produces an outline of the document, and creates clause libraries for each section of the outline. All these steps can be performed manually, but they are much faster and more accurate when processed with technology.

Task: kiiac consultant processes the document collection, creates a template outline, and clause libraries.

Index documents:

Classify document type
Extract metadata (e.g. title, parties, law firms and jurisdictions)
Decompose into clauses

Generate template:

Create a template outline
Clause libraries
Generate review reports

(a) Metadata

Extract metadata from the source documents such as: title, parties, date, law firms and jurisdiction.

(b) Outline

Review all the documents and identify the common organizational theme. In some instances, the documents may be organized in a consistent manner. For example, all documents may have a section titled Miscellaneous or General Provisions. In other situations, similar clauses may appear in different sections of the outline. The program or reviewer must determine whether:

clause sections are distinct (such the organization clause that may appear in both the representations of the buyer and the seller);
clause sections are the same, but in different places in different documents (such as a further assurances clause that may appear in the transaction section, the covenants and the Miscellaneous provisions);
clause sections are overlapping (for example an amendment and waiver clause overlaps with both the separate definition of amendment and waiver clauses).

This step can be performed manually or automatically. Those who have attempted to organize a template manually will appreciate the complexity of the challenge as each organizational adjustment will have significant collateral effects. It truly is a job better performed by a computer, because technology can analyze millions of comparisons per second to find the best fit. The process is similar to the board game Mastermind; but played by a computer, which can solve the code in a split second.

For each branch in the outline identify all the matching clauses. Within these clauses find the core language, namely, the clause that contains all the common terms and the less amount of divergent or deal-specific language. In addition, identify the full range of language variations.

See, How Does it Work for more information on the computerized process.

Step 2. Collect—Source Documents

2011-02-10T08:51:00.000-08:00

Task: Choose the document type, options and capture source documents

What set of source document?
How can they be identified?

Question: What document sources should be used to build the template?

Internal documents (FileSite; West km)
Public documents (EDGAR)
Client documents

Question: How many documents are required?

Breadth: The number of documents should be sufficient to cover broad range of deal circumstances and jurisdictional differences, but not too many as to overwhelm the review process.
Consistency: The more consistent document set, then fewer will be required to build a template
Range: As a rule of thumb, a range of between 50-100 documents is optimum. Where the document set is highly consistent or where there is a narrow range of deal alternatives, then 20 documents or less can be used. On the other hand, where there is less consistency and more deal alternatives, then up to 250 documents may be required.

Question: Should the documents be vetted and reviewed before processing?

Where the process is performed manually, the documents will be reviewed as part of the process. However, if automation is applied, it is generally better not to perform vetting prior to analysis. While some may argue this risks the paradigm of "garbage-in; garbage-out", the issue is rather that most organizations will have limited tools to review document before processing; absent of reading all the documents. Once they are processed, the technology offers exacting tools to select the documents for inclusion in the template. As a result, most firms perform a simple document title search in their file systems or search platforms, sometimes limiting the scope by date and/or practice group.

Step 1. Plan—Select Document Type and Form Options

2011-02-10T08:37:00.000-08:00

Task: Educate lawyer, gather requirements, and answers questions

Project scope and schedule are typically addressed in a kick-off meeting. In most cases, the meeting can be conducted by KM personnel or library staff using question and answer format to develop a project plan. The initial meeting should address the following questions.

What document type?
Is this a new form development project or a forms maintenance and update project?
What is the source of the documents?
How many documents will be used to construct the template?
How will the template be used?

Question: Why Create Templates?

Quality: Standardized forms with alternatives clauses are important to creating high quality documents in an efficient manner. (See, http://www.kiiac.com/why.htm)
Profitability: In a highly competitive practice, some of these efficiencies can be passed onto the client in the form of lower fees; some can be retained by the firm in the form of higher margins. In addition, the use of forms and templates can increase profit margin when used in a fixed fee or AFA representation. (See, http://www.kiiac.com/financial.htm)

Question: Why not re-purpose documents from the last deal?

Deal Checklists: The last draft may not contain all the deal options appropriate for the needs of the current transaction.
Institutionalizing Poor Drafting Practices. Using the last draft brings forward the good, the bad and the ugly, potentially institutionalizing poor drafting practices. (Retooling Your Contract Process for the Downturn: Adams Drafting)
Failure to Capture Best Practices: Using the last draft means that new and improved drafting practices are captured in a particular set of deal documents, which may never resurface. A template approach, on the other hand, is a centralized repository to capture best practices and to weed-out poor drafting, thereby continuously improving the precedent collection.

Question: Why not use public forms freely available on the Internet or through subscription?

Real Practice: In many cases, public forms lack the detailed range of deal alternatives found in real practice. They are typically simplified, generic forms of a transaction.
Brand: Re-purposing a publicly available form risks commodity pricing, since any law firm can provide this service. Developing a firm’s drafting standards established its brand and may allow the firm to charge premium pricing.

Question: What types of agreement make good candidates for a template?

High Use/Volume: Document types that are frequently used in the firm.
High Value: Document types that have a high value
Client Interest: In demand by current and prospective clients

Question: How are templates used in practice?

Research: Templates can serve as an educational instruments to help lawyers quickly understand what terms are found in a particular deal type; as a research platform to find standard and alternative provisions; and as a negotiation leverage tool to assess market standards or a particular law firm’s drafting practices.
Model Forms: Templates can be used to prepare model forms, containing clause alternatives, serving as an excellent starting point for the next drafting project.
Document Assembly: Model forms can be automated to insert client and deal specific information to rapidly generate a first draft, customized to particular clients needs.
Document Review: Templates also serve as a reference standard to compare and benchmark any document to determine if it contains: all required provisions; deal-specific provisions; and potentially missing provisions.

Question: How much lawyer time does it take to create a template and model form?

Manual Review: We can estimate the time to thoroughly prepare a template using the formula: number of source documents multiplied by average document page length multiplied by the time required to read and review each page. If, for example, the project consists of 50 merger agreements, each averaging 75 pages, and requiring 5 minutes to review each page, then the project will require approximately 2 months to complete. Of course, the number of documents and time taken to read each page can be reduced, but this approach risks failing to identify standard practices and the full range of deal alternatives.
Automated Review: A standard desktop computer can review and analyze 30 pages per second, completing the review of the 50 merger agreements in 2 minutes. This analysis facilitates an expedited schedule to create model forms.
Timeline: See the Project Planning Schedule in Attachment 1

Question: Are they any special required that should be considered?

Special requirements (e.g. NDAs)
Data privacy rules

10 Step Program to Creating Model Forms

2011-01-21T04:32:00.000-08:00

Over the next few blog posts, I propose to refine the process of creating and maintaining model forms and drafting templates. In an earlier post, I described the fastest way to develop a form. In this series of posts, I intend to share best practices developed from working with a number of different law firms and detail each of the 10 steps.

Plan—Select Document Type and Form Options
Collect—Source Documents
Organize—Template Outline and Clauses
Review—Template Structure and Clause Libraries
Generate—Base Document and Clause Alternates
Edit—Document and Clauses
Assemble—Model Form
Publish—Model Form and Template
Share—Practice Guides
Maintain—Template and Clauses

Separate blog posts detail each step.

Contract Readability -- Part 2

2010-12-21T02:18:00.000-08:00

Contract readability is affected not just by the choice of words (common or obscure) or sentence structure (short or long and compound) but also by style. In their landmark work, What Makes a Book Readable (1935), William S. Gray and Bernice Leary identified 228 elements that affect readability, which they classified into four main headings:

Content
Style
Format, and
Features of Organization

The authors found that content, with a slight margin over style, is most important. Third in importance is format, and almost equal to it, “features of organization,” referring to the chapters, sections, headings, and paragraphs used to organize concepts and ideas.

The golden rules of human readability are generally well understood. JoAnn Hackos and Dawn Stephens in Standards for Online Communication (1997) summarizes the rules:

“Use short, simple, familiar words
Avoid jargon.
Use culture-and-gender-neutral language.
Use correct grammar, punctuation, and spelling.
Use simple sentences, active voice, and present tense.
Begin instructions in the imperative mode by starting sentences with an action verb.
Use simple graphic elements such as bulleted lists and numbered steps to make information visually accessible.”

However in many cases, drafters of legal agreements appear to go out of their way to violate these principles and make their documents more difficult to read. There are numerous ways drafters challenge human—and machine—readability.

Compound Clauses aggregate multiple clauses into a single clause (e.g. Governing Law; Venue; and Jurisdiction)
Overlapping Clauses are a variation of compound clauses that inconsistently combine clauses (e.g. (a) Entire Agreement; Amendments and Waivers, (b) Entire Agreement; Waivers, and (c) Amendment and Waivers)
Duplicate Clauses are similar clauses found in different parts of the agreement (e.g. Best Efforts and Further Assurances in the Transaction, Covenants and Miscellaneous sections)
Inconsistent Organization of Clauses occurs when articles are inconsistently named and grouped (e.g. Covenants, Covenants of the Buyer, Covenants of the Seller, Additional Agreements, Additional Agreement and Covenants)
Inconsistent Location of Clauses occurs when a clause appears in different sections of a document (e.g. an Amendment clause may appear in either the Miscellaneous or the Termination section)

When clauses are sometimes located in one place and sometimes elsewhere, there is a higher likelihood that important clauses may sometimes be missed.

Based on these principles, there is a set of clauses in legal agreements that are consistently the most inconsistently organized. The identity of these clauses will likely come as a surprise, because they are also some of the most basic provisions. They are the opening clauses in the Representations and Warranties section that cover the following concepts.

Status
Powers
No Violation or Conflict
Consents
Obligations Binding

Frequently these concepts are joined in every combination possible.

Atul Gawande’s Checklist Manifesto provides a detailed analysis of the use of checklists by professionals, including physicians and pilots. The author demonstrates how such simple lists can improve performance. As mentioned in an earlier post, the organization of a contract can also serve as a deal checklist. Moreover, the application of some simple rules can make contracts more readable and less prone to oversight.

Organize sections in a logical (business-orientated) manner
Apply a consistent organizing framework
Separate elements into their most basic constructs
Use numbers, bullets and other formatting methods to visually separate contract elements

Margin, Volume, and the Long Tail

2010-10-26T05:46:00.000-07:00

Private law firms naturally focus on high margin services—bet the business work—where cost is less of a concern and fees are high. However, such work is small in volume. While mostly shunned, there is significant opportunity in more routine factory work. While it carries a low margin, the smaller profits per transaction are more than made up in volume.

The topic was addressed in one the best presentations at ILTA. Gerard Neiditsch, Jeffrey Rovner, Mary Abraham, and Ron Friedmann took A New View of the Automated Law Firm and contrasted the nature of bet the business and factory work from a wide range of perspectives, including: (a) how work is produced, (b) how it is managed, (c) who does the work, (d) how business is developed, (e) how it is priced, and (f) how the work is packaged.

Margin, volume …

With an hourly rate, profit margins tend to be similar for bet the farm and factory work, because profit margin today is based more on the staffing ratios and hourly rates than the nature of the service.

While more hours and higher priced attorneys will likely be applied to a merger transaction compared to drafting an employment agreement, meaning that the gross receipts will be higher for the merger, the profit margin for each hour worked will be equivalent where staffing ratios of partners, to associates, to paralegals is about the same. In the absence of a successful document automation or legal process management solution designed to delegate work to less costly resources, the employment agreement will still be handled by a partner and an associate working in about the same ratio of hours compared to the merger.

As a sidebar note: an employment agreement is less standardized compared to a merger agreement, so on a page-by-page basis, it will likely take longer to review and negotiate.

The price for legal services is unresponsive to market forces due lack of automation and process management. As a result, the supply curve is inelastic because of inability to scale or realize any economies of scale.

Economics would argue that since there is a much greater demand for employment agreements, there should be more service providers competing to meet market demand: and, all things being equal, more demand and increased supply will lower the price. Law, however, is high price piecemeal work that requires more workers and hours to produce more services. Lacking innovation, it cannot serve commoditized markets.

Big law serves the narrow market of high-margin, low-volume legal work—good work if you can get it.

Plotting margin and volume on a grid shows that big law operates in the lower-right sector. Few businesses will have any interest in occupying the lower-left sector, and economics will rarely allow the upper-right sector to exist for long periods. In its heyday, credit swaps and derivatives may have been an example of this segment, but most firms continued to price their services by the hour and therefore did not realize higher profits.

The remaining sector is the upper left—low-margin, high volume legal services: a virtually untapped market for private law firms.

... and the long tail

Due to inability to realize economies of scale, big law services fewer and fewer of the transactions executed by their clients because they have priced themselves out of the market. This work has moved in-house.

High margin legal services represent the rarified end of the long tail. For every merger agreement executed by a large corporation, it will negotiate a handful of procurement and license agreements, hundreds of employment agreements, and perhaps thousands of confidentiality agreements. As GCs seek to reduce their outside counsel expense by as much as 25%, this trend will likely accelerate.

The opportunities for law firms (big or otherwise) able to introduce efficiencies are significant. Moreover, this untapped market is likely far larger than the market currently served.

There are many good reasons why firms may not choose this path. It will require change and investment. It may also be perceived as less challenging commodity work. Having spent years drafting and reviewing legal documents, I would argue that is just as challenging to identify contract standards and negotiation ranges for employment agreements based on thousands of documents, compared to drafting one merger agreement.

Contract Analysis -- Commonality and Consistency

2010-10-01T06:18:00.000-07:00

In response to my last Post, Ken Adams returns to a familiar theme to question the contract analysis approach. His post, http://www.adamsdrafting.com/2010/09/30/for-optimal-contract-language-dont-follow-the-herd/ suggests the purpose of contract analysis is to find the most popular clauses.

This is an opportunity to clarify how kiiac works. In creating a reference set, kiiac creates an aggregated outline (similar to a table of contents for the collection) and a clause library for each outline branch. The outline captures the standard transaction elements and all deal-specific variations. It does, indeed, measure clause commonality, showing how frequently particular terms appear in the collection. The clause library, however, is organized not by commonality, but by language consistency. Our goal is to find the core, non-negotiated language for each provision. We then group the library by conformity to the standard, highlighting deal-specific or divergent terms in each clause. Typically all the clauses are slightly different, so it is difficult to determine which would be the most common.

kiiac proposes the core language as a starting point. You can select a different clause if it contains language you prefer, or you can quickly review the full range of alternatives and supply your own language for the provision.

Ultimately, the difference in approach between Koncision and kiiac may not be that different. kiiac’s approach is to start with a document structure and set of clauses that are familiar to the attorneys, identify the best precedent in the collection and enable a process of continuous improvement. As I understand it, Koncision will use existing precedent as a guide and may re-write terms where existing language is not optimally suited for its purpose. I think it is fair to say: we are both trying to get to the same point.

Figure 1 shows the outline created for a merger agreement, showing the organization of the agreement of the agreement and how frequently each provision occurs (the more common the clause, the more filled-in the icon).

Figure 2 shows the clause library for the governing law provision, identifying the core clause with the least or no deal-specific or negotiated language, and grouping the clauses by divergence to such standard.

The Power of Statistics

2010-09-30T09:16:00.000-07:00

We all know the catch phrase “lies, damned lies, and statistics.” It is typically used to mean that statistics can be manipulated to support any proposition and should therefore be viewed--presumably--with some degree of skepticism.

And that’s a concern for those of us seeking to harness the power of statistics to analyze contracts and other documents.

So I was intrigued when I came across Michael Lewis’s book Moneyball-The Art of Winning an Unfair Game (2003). I enjoyed Liar’s Poker (1989) and look forward to reading The Big Short: Inside the Doomsday Machine (2010). I confess to reading a synopsis of Moneyball on Wikipeadia. It summarizes the book:

“The central premise of Moneyball is that the collected wisdom of baseball insiders (including players, managers, coaches, scouts, and the front office) over the past century is subjective and often flawed. Statistics such as stolen bases, runs batted in, and batting average, typically used to gauge players, are relics of a 19th century view of the game and the statistics that were available at the time. The book argues that the Oakland A's' front office took advantage of more empirical gauges of player performance to field a team that could compete successfully against richer competitors in Major League Baseball.”

The application of math and statistics to literature, art, and even sports is often greeted with skepticism, doubt and sometimes nostalgia. For example, Bill Simmons of ESPN writes in Finally joining the revolution: “I longed for the old days when you could say things like, ‘I hate watching J.D. Drew -- when is that contract going to end?’ and there wasn't some dude lurking behind me with Drew's stellar OPS, VORP and WAR numbers saying, "Well, actually ... "

Simmons is now a convert and is convinced by the insights offered by sabermetrics.

Reading these articles also made me think of a piece in the Wall Street Journal titled, Contract Doesn't Let Board Fire Mann CEO for Jail Term, in which the authors appear outraged that “[u]nder the terms of the employment agreement for Louis Lower, the jailed chief executive of Horace Mann Educators Corp., serving a 60-day sentence on a drunken-driving charge isn't grounds for firing—or for losing any pay.”

If the authors harnessed the power of empirical evidence, they would discover that termination for substance abuse is rare, appearing in less than 5% of CEO contracts. Stewart J. Schwab and Randall S. Thomas report on their analysis in An Empirical Analysis of CEO Contracts: What Do Top Executives Bargain For?

Some contracts may include commission of a felony as cause for dismissal and termination of pay; but typically a DUI is a misdemeanor and in some states it carries a mandatory jail sentence.

While contract analysis is a very new field, it will likely offer new insights on precedent that we thought we understood thoroughly and it may question our long-held beliefs.

Creating Forms by Committee and Consensus

2010-09-21T04:22:00.000-07:00

An earlier post—The Fastest Way to Create a Form—describes a process to identify standards using technology to find the most conforming document and the most conforming clauses to quickly establish a baseline and then bring it up to practice standards by supplementing the baseline with missing and divergent clauses.

In other cases, a consensus building approach might be preferred. Working with ABA Model Intellectual Property Task Force, we have proposed an efficient, technology-enabled approach to develop model forms based on a potentially diverse set of documents and a wide range of individual interests.

1. Create the reference set from a source set of documents. In this case kiiac examined 105 Intellectual Property Security Agreements. (If you are interested in viewing the set, please send me an email and I will provide you with access credentials).

2. Provide an overview of the process. John Murdock, partner at Bradley Arant, created a YouTube video explaining the goals of the project and how the group can achieve consensus and develop the model form. John created the video in PowerPoint and rendered it with Moyea PPT to Video Converter. (FYI: A good resource for ideas about putting PPT content on the web is: http://www.dvd-ppt-slideshow.com/ppt-to-dvd-tips/put-powerpoint-on-web.html.)

3. Gather feedback on drafting options. The consensus building approach needs to work both during in-person meetings (that may take occur twice a year) and between such dates. In order to move the process along more efficiently, the key drafting choices are identified and the group’s opinions gathered through a Survey Monkey.

The approach to identifying the drafting questions used the technology to examine where consensus exists and where there is a range of opinions. One of the goals of the MIPSA project is brevity. While it would be easy to use the technology to identify all possible variants and string together a comprehensive lists, the group determined to use the process to streamline and clarify contract language.

Where kiiac finds that all documents contain a particular provision, it is considered required. But where a particular provision is found in the some, but not all agreements, it is considered optional or deal specific. The group is then asked whether it should be included in the model. For example, 100% of the grant clauses contain a grant of a security interest, while a smaller percentage include language to “assign,” “pledge,” or “hypothecate” the collateral. Here is a screen shot of the Survey Monkey.

The first step to create a model for the grant clause will run through December. I’ll report back on the results and level of participation.

Contract Readability -- Part 1

2010-09-13T06:17:00.000-07:00

What makes a document easier to read and understand by both humans and machines? Does readability—or lack thereof—affect document quality?

The next few blog posts will focus on drafting practices to assure quality and avoid mistakes. The purpose is to try and identify best—and worse practices—and discuss whether they have any significant impact on quality.

The golden rules of human readability are generally well understood. JoAnn Hackos and Dawn Stephens in Standards for Online Communication (1997) summarizes the rules:

“Use short, simple, familiar words.
Avoid jargon.
Use culture-and-gender-neutral language.
Use correct grammar, punctuation, and spelling.
Use simple sentences, active voice, and present tense.
Begin instructions in the imperative mode by starting sentences with an action verb.
Use simple graphic elements such as bulleted lists and numbered steps to make information visually accessible.”

But, lawyers, as typified by a well-known Dilbert cartoon, are well known to violate each rule with reckless abandon.

There’s a fabulous site you can use to test the readability of your contracts.

Online Readability Test

It estimates the number of years of formal education required to understand text on first reading using the Gunning Fog index. The software reported that for one merger agreement I processed, you will need nearly 23 years of schooling. It will be interesting to discover the most incomprehensible document.

Contractual clarity has long been the goal of the Plain English movement. But, it has made only limited progress. In the next post, I’ll address whether readability matters.

The Fastest Way to Create a Model Form

2010-09-02T02:57:00.000-07:00

We all know the most inefficient method: ask attorneys for their best samples and form a committee to review the documents. Virtually all firms have tried this approach: all with same result.

Now, with aid of technology, there are much more efficient methods that can produce a model document in days; sometimes hours.

1. Search the document management or file system for the desired document type. Vetting or editorial review is not required. The software should identify the required documents and parse the clauses to identify the core, non-negotiated language.

2. Analyze the set of documents and

· capture the document outline, indentifying the frequency of each provision;

· capture a library of clauses for each provision, identifying language consistency

3. Find the most conforming document. This is the document that contains all common terms and the most standard clause language. Most importantly, it will have been drafted so that all its clauses and defined terms work together. It is also useful to confirm that this model is also widely used at the firm (i.e. are there a number of similar documents). If so, it is not only the most conforming document, but also the de facto standard.

4. Find the clauses in the most conforming document that might be missing. These are the clauses that occur frequently in the document set, but are absent from the most conforming document. Determine whether to add the most conforming clause from the clause library or another clause example, if desired.

5. Find the clauses in the most conforming document that diverge from the standard core language. These are the clauses that may be missing some standard language or may contain deal-specific language. Determine whether to replace these clauses with the most conforming clauses or another clause example, if desired.

In a recent application of this approach, one top-level clause was indentified as missing and four clauses were identified as divergent. The lawyer review process to create the model form took 45 minutes.

A concise history of the use of forms in the legal profession

2010-09-01T00:45:00.000-07:00

The earliest use of model forms can be traced back to 1392, when the Worshipful Company of Scriveners first employed scribes to beautifully copy one document to the next. WHEREAS, the aforementioned forms were penned in Ye 'Olde English, the innovation is remembered mainly for its use of hand-scrolled, script font.

In these early years, the pace of innovation is swift. The next major milestone came in 1450, when Gutenberg invents the printing press, enabling the mass production of form books. In terms of drafting practice, the distinguishing feature of the innovation is the use of the blackletter font.

However, for nearly 400 years innovation is shunned as drafting enters the dark ages. It is not until 1829 that the next major innovation arrives with the invention of the typewriter, enabling lawyers to mass produce their own forms. The innovation is distinguished mainly by the eventual adoption of the courier font.

Finally, in 1976, Jobs and Wosniak invent the personal computer, facilitating the automated mass production--and personalization--of legal forms. However, most contracts are still drafted by copying the last document and laboriously making the necessary changes for the next client. The key innovation is the wholesale transition from a fixed width to a proportional font with the introduction of Times New Roman.

One can only imagine what new discoveries will be made in the centuries to come.

ILTA-When will lawyers find the time to practice?

2010-08-31T07:07:00.000-07:00

ILTA was a great experience: totally exhausting. Overall, I agree with Peter Krakaur’s (CKO Orrick) assessment that the presentations clearly showed we are embarking on a period of significant change, but also a renewed sense of energy or excitement.

For 10 years, there has been little new to talk about. There have many great ideas, but few instances of real change. For example, it was rare to see screen shots of examples of KM in practice (by which I mean not simply search and retrieval). Now there appears to be broad acceptance that change is happening, a few firms are embracing alternative billing and some are even moving towards performance based review for associates (not just number of hours).

To this new world, comes new technology such as profitability analysis and project management. Session after session highlighted new technology and placed some or all the burden of adapting to the “new normal” on the attorney. I began to wonder when lawyers will find time to practice. After 30 years of innovation, we require attorneys to be:

Competent secretaries
Skilled researchers
Adept at numerous software applications
Seasoned marketers, and
Capable project managers

Lawyer circa. 1980

Lawyer 2010

We may need to start asking ourselves how many of these tasks can be offloaded to dedicated professional staff or handled by technology.

Contract Analysis—A Force for Contractual Bloat or Streamlining?

2010-08-09T07:56:00.000-07:00

I would like to believe a significant event took place over the weekend in San Francisco—contract analysis moved beyond static surveys to serve as an interactive tool to evaluate and guide best practices.

In a session at the ABA Conference, John Murdock, a Partner at Bradley Arant Boult Cummings LLP and I presented an analysis of 105 Intellectual Property Security Agreements. I provided the statistical analysis; John presented the legal analysis of the documents. John titled his talk: "Did 29% of the lender's get it wrong; or did the rest of us blow out some IP." Here are links to John's and my presentations.

Our process as part of a Task Force to develop a model form was to:

(a) determine the structure of the form by identifying required and optional elements of the agreements;

(b) determine the content of each element by identifying the range contractual language; and

(c) establish a procedure for members of the task force to express their opinions as to why each optional provision and term should be included or excluded from the model.

For example, in the case of the grant clause, 100% of the agreements contain a grant of the security interest. Each optional additional elements is shown in italics and its frequency is displayed in parenthesis.

Borrower irrevocably grants to Secured Party a continuing security interest in and

pledges, (42%)
assigns, (23%)
hypothecates, (19%)
mortgages, (12%)
grants a lien upon, (5%)
and grants a right of setoff against, (9%)
the Collateral
with power of sale (8%)

The discussion raised the interesting question, will contract analysis tend towards producing ever longer agreements or will it be a force to consolidate language? I hope it is a means to rein in language bloat. Indeed, this is process we hope to put in place.

The mechanisms to push toward comprehensiveness and streamlined agreements both exist in the software. The tools to create the agreement structure will find all standard contract elements and all deal-specific variants. The tools to examine the contractual language for each provision identify the core, non-negotiated language and all variations. Whether the tool is used to find the model that seeks to address all possible contingencies or succinctly and clearly address the specific needs of the transaction is in the hands of the user (or committee).

Contract analysis tells you what provisions are required—they appear in 100% of the documents—and what provisions are optional. The Task Force plans to review each provision and all language and justify why each term needs to be in place, rather than simply take the approach that others have used the terms, therefore they must be important under some circumstances and should not be removed.

The capacity to review and analyze legal agreements has always existed. We can read large sample sets of documents, tabulate and publish the results. Automated systems can do it much faster (KIIAC can process the 105 agreements in less than 2 minutes). It can do it across all deal terms and in great detail. There is, however, a more subtle difference.

Computer analysis does not simply collect information on the frequency of occurrence, it gives us the capacity to easily examine the full range of alternatives and make judgments about which will deliver the better results. The observation might simply be that best practices are more easily identified when we are exposed to a dynamic and interactive medium compared to viewing static survey tabulations.

How do your forms stack up to practice?

2010-07-26T11:30:00.000-07:00

Recently, our contract analysis work raised an interesting question: how do commercial forms measure up to practice standards? In this circumstance, practice standard is defined as the best precedent files available from a law firm's document management or file system.

In summary, we discovered model forms contain less deal variations and fewer deal specifics. In one case—an asset purchase agreement—analysis showed that the commercial form contained about 50% of the firms standard terms and clause language.

For example, comparing the sub-clauses of the section captioned Purchase and Sale of Assets, the commercial form, as shown in the table, contains the basic deal elements, while the firm standard details included and excluded assets and liabilities, together with specific price allocations and adjustments.

Commercial Form	Firm Standard
Purchase and Sale of Assets	Transfer of Assets
Assumption of Liabilities	Excluded Assets
Purchase Price	Assumed Liabilities
	Excluded Liabilities
	Purchase Price
	Payment of Purchase Price
	Allocation of Purchase Price
	Adjustment of Purchase Price
	Prorations

The same differences can also be seen in the text of clauses. The commercial form provides minimal language for the purchase and sale of the assets.

"Purchase and Sale of Assets. On and subject to the terms and conditions of this Agreement, Buyer agrees to purchase from Target, and Target agrees to sell, transfer, convey, and deliver to Buyer, all of the Acquired Assets at the Closing for the consideration specified below in this 2."

The firm standard provides more details and specifics. For example in the case of the sale of assets of a high tech company, the clause provides great detail on all assets and provides a list of assets transferred including: (a) personal property; (b) raw materials and work in progress, (c) contractual rights, (d) claims, (e) intellectual property, (f) works, (g) designs, concepts, know-how and techniques, (h) permits and licenses, (i) books and records, (j) computer programs and associated data, and (k) goodwill.

Measuring Standards

By way of background, contract analysis software performs two principal tasks. First, it creates an aggregated outline (or checklist) from a set of documents. Second, for each outline element, it creates a clause library. As part of this process, the software identifies the best document and the standard clauses. "Best" is, of course, subjective. Contract analysis, like any other computer process defines such standard as the best objective or logical approach.

Finding the Standard Document

The most conforming document is the document that contains all standard deal elements and the least deal-specific variations. It is compares documents based on three main statistical elements, simplified here for purposes of explanation.

First, the presence of articles, clauses and sub-sections, namely the building blocks of a deal document. For example, the analysis identifies whether each document has survival, amendment and waiver clauses, irrespective of where they may appear in a document. It also identifies and counts the number of deal-specific clauses that do not typically appear in a particular type of document. The ratio of standard to non-standard clauses gives us the clause commonality measure.
Second, for clauses that have sub-sections, the analysis measures the commonality of such sub-clauses. For example, in a merger agreement, it finds and groups all possible representations and warranties and how frequently they occur. The ratio of common sub-clauses to non-standard clauses provides a measure of sub-clause commonality.
Third, the analysis measures the commonality of the words in each clause. The analysis identifies the common and infrequent words. The ratio of common words to uncommon words in each matching clause gives us the measure of word commonality.

The document with the highest overall score is the most conforming or standard document. It is, in fact, the document containing all the standard deal terms.

Finding the Standard Clause

The approach to finding the standard clause is not the most common or frequently occurring clause. It is the clause example that contains all required language (determined by analyzing all matching clause examples) and the least amount of deal-specific language. In plain English, it is the clause that contains the core, non-negotiated language.

As an aside, when working inside law firms, it was frequently suggested that best practice precedent should be drawn from the first—and not the last—draft of an agreement, presumable based on the reasoning that it will be the least edited and changed from base standard. Contract analysis exposes the weakness of this approach because in many cases the so-called "first draft" is in fact brought forward from the last draft of the agreement used as a starting point for the new document. The way to find the core, non-negotiated language is to examine all clauses from all documents and identify the most conforming language.

Efficient Forms Creation and Maintenance

The result of this analysis is not theoretical. It has practical value, significantly speeding up the process of forms creation and maintenance.

First, find the most conforming document. In this document, all the clauses will be drafted to work together with a conformed set of define terms.

Second, for those clauses that may be missing or divergent from the standard (in this particular document), use the clause library to supplement of replace the clause. Where the most conforming document is 90% standard, the review process need only focus on the non-conforming 10%.

Legal and Business Risk—an evolving understanding

2010-06-28T11:49:00.000-07:00

Assessing legal and business risks in a transaction and handling those risks in deal documents is without doubt the one of the most challenging tasks a lawyer performs. Moreover, academic and professional writings indicate an evolving understanding of risk. For example, an IACCM newsletter in June 2007, noted "a growing body of evidence indicating that traditional legal approaches to the management of risk are too narrow. They can frequently result in unintended consequences that themselves represent risk to the business. Best practice organizations are tackling this by greater integration of the Law Department into the business and through more rigorous evaluations of probability and consequence, undertaken by people or teams with cross-functional skills and perspectives."

The IACCM initiative seeks to address "three core causes of weakness in existing procedures:

1) Predominant focus on consequence, rather then probability;

2) Narrow situational view, rather than assessment on a portfolio basis;

3) Failure to integrate legal decisions with overall business impacts."

In a similar sentiment, Jones Day partners Robert Profusek and Lyle Ganske published an article titled "It's Time To Rethink The Lawyer's Role In Dealmaking: Start By Facing Up To The New Realities." In the article they state "rather than staying mired in the world of cookbook dealmaking, we need to take a page from the private equity playbook. Our clients need to assess risk."

A Framework for Transactional Risk

In a draft paper, Management of Legal Risk by Financial Institutions, Roger McCormick defines legal risk as "the risk of loss to a company that is primarily caused by:

(1) a defective transaction;

(2) a claim (including a defense to a claim or a counterclaim) being made or some other event occurring which results in liability for the company or other loss;

(3) a failure to adequately protect assets owned by the company; or

(4) change in the law."

While lists of types of risk are helpful to understand the overall breadth of a topic, an organizing framework can further organize and categorize the principal risk elements, so that we might better understand the component elements, their scope and importance. A proposed framework divides transactional risk into legal and business risk.

Legal Risks	Business Risks
Substantive Enforceability Risk: Risk of illegality, unenforceability or increased exposure to litigation	Due Diligence Divergence Risk: Risk of failure to protect assets, rights, or interests
Procedural Compliance Risk: Risk of failure to comply with procedural or regulatory requirements	Customization Negotiation Risk: Risk of failure to secure best terms or unintentionally allocate risks.

First, substantive legal risk raises issues of enforceability. It is the risk that failure to conform to statutory or common law norms may render all or a part of an agreement illegal, unenforceable, or increase the probability of dispute or the cost of resolution. Substantive risks also include the danger that contract terms are not read as intended.

Second, procedural legal risk raises issues of process. It is the risk that failure to comply with procedural of regulatory practice may void, delay or increase the cost of a transaction.

Third, business form risk raises issues of due diligence. It is the risk that failure to conform to market practices and include all required terms may not adequately protect each party's interests. For example, a loan agreement may not adequately indentify the collateral, or a software development agreement that lacks an acceptance clause may limit the buyer's options in the event that application does not perform as expected.

Fourth, business negotiation risk raises issues of customization. Each contractual term—price, process, rights, obligations, remedies, etc.—may have neutral weighting or may favor one party or the other. Negotiation risk is the risk that a transaction fails to maximize each party's interest (relative to their negotiating position) or may unintentionally shift risk between the party's (not reflected in the price).

Initial Thoughts

A review of recent articles and posts indicates a slow shift of focus from purely legal risk to a deeper understanding of the business risks in the transactional practice. Over the next few posts, I intend to dig deeper into each risk quadrant and welcome your thoughts and feedback.

Contract Checklists-does sequence matter?

2010-06-16T10:39:00.000-07:00

Many professionals use checklists to ensure high quality, consistent performance and to avoid errors of omission. We are all grateful, for example, pilots run through their checklists every time they take-off; even if it is their fifth departure that day.

Checklists received acclaim with Atul Gawande's book, Checklist Manifesto, which became a New York Times best seller in 2009. In his book, Gawande distinguishes between errors of ignorance (mistakes made because we did not know enough), and errors of ineptitude (mistakes made because we did not make proper use of what we know). Failure in the modern, complex world, Gawande asserts, is primarily due to the second reason.

It is not that the pilot, doctor or lawyer does not know how to perform a task. Moreover, it is unlikely that a checklist would teach them anything they did not already know. The main purpose of a checklist is to prevent trained professionals from a missing a step. Sometimes when we perform familiar tasks, we "see" what we expect: not necessarily what is, in fact, the case. We can, for example, mentally insert words that are absent from the text we are reading.

In this context, the challenge of reviewing long, complex legal documents is especially daunting. We can proof-read what is on the page; it is much harder to proof what might be missing, potentially located in another section of the section, or duplicated elsewhere.

Unfortunately, few lawyers have ready access to formal document checklists. For some complex deals firms will prepare deal checklists to orchestrate the preparation and filing of documents and coordinate work among the lawyers involved in the transaction. But, these checklists rarely capture the detail needed to review each agreement. Lawyers must rely on a mental checklists honed over years of experience. But, in the face of unrelenting pressures to be ever more efficient—and do things faster—more opportunities for errors will undoubtedly arise.

There are, however, surrogates for formal checklists. As in many situations, knowledge management can, as pointed out by Chris Boyd of Wilson Sonsini, "capitalize on existing law firm information flows and business processes." In this case, the existing information resource is the table of contents of existing—hopefully exemplar—agreements.

Contract analysis can shed additional light on how to make best use of existing resources. It aggregates multiple documents into a single combined outline. Viewed as an outline, it is in many ways a comprehensive checklist of all deal terms. How it is organized and order presents some interesting choices. The clauses in the outline—both the top level and the sub-clauses in each section—can be ordered in:

(a) a traditional sequence
(b) an alphabetical order, or
(c) a logical and categorized sequence.

Question: what is the best approach?

Consider a simple example based on a partial list of clauses found in the Miscellaneous or General Provisions section, in which the more frequently occurring terms are highlighted in bold text.

Traditional	Alphabetical	Logical
Notices Interpretation Assignment Successors and Assigns Binding Effect (Parties in Interest) Severability Schedules and Exhibits Remedies Cumulative Specific Performance Governing Law Arbitration Headings Mutual Drafting Amendment Waiver Counterparts Entire Agreement Jurisdiction Waiver of Jury Trial Attorneys' Fees	Amendment Arbitration Assignment Attorneys' Fees Binding Effect (Parties in Interest) Counterparts Entire Agreement Governing Law Headings Interpretation Jurisdiction Mutual Drafting Notices Remedies Cumulative Schedules and Exhibits Severability Specific Performance Successors and Assigns Waiver Waiver of Jury Trial	(a) Scope of Agreement Entire Agreement Counterparts Schedules and Exhibits Amendment Waiver (b) Parties Binding Effect (Parties in Interest) Assignment Successors and Assigns Notices (c) Enforcement Arbitration Governing Law Jurisdiction Waiver of Jury Trial Attorneys' Fees (d) Interpretation Remedies Cumulative Specific Performance Severability Interpretation Headings Mutual Drafting

In choosing between the three alternatives, the programmer in me will normally select the logical alternative. However, each alternative carries advantages and disadvantages.

First, the principal advantage of the traditional sequence is familiarity. Lawyers expect to find provisions in predictable locations.

Second, the alphabetical order serves as an index of the clauses in the same manner as the lexicon at the back of reference books. It can serve as a useful tool to check for duplicate terms. For example, if you create an alphabetical list of the all the terms found in a merger agreement, you will likely find a clause typically called "Further Assurances" occurs in the Merger section, the Covenants and Additional Agreements sections, as well as the Miscellaneous section; all containing similar, but slightly divergent terms.

Third, the logical sequence serves a role similar to the outline or table of contents at the front of a reference book. It helps determine whether all the appropriate terms exist and that they are combined the appropriate sequence.

The sequence of terms, like any taxonomy, can be categorized by reference to its goals or purpose. Applying this approach, the Miscellaneous section can be organized by defining the "law of the agreement" and grouping the clauses by: (a) scope of the agreement, (b) parties, (c) enforcement, and (d) interpretation. While this may not be that significant for the humble "boiler-plate," terms, it can be extremely useful when applied to more complex sections, such as the Representations and Warranties of a merger agreement. In this case, the sequence and order can follow the due diligence process and organize the clauses in something like the following:

Company Status
Authority and Permissions to Conduct Business
Financial Condition and Reports
Assets
Liabilities
Contracts and Other Obligations
Compliance with Laws and Internal Controls
Environmental Matters
Employee and Labor Matters
Information Supplied and Full Disclosure
Other Representations and Warranties

Now, it is much easier to evaluate whether something is missing or perhaps inappropriate to the context of the transaction.

While the logical approach appears helpful, I am mindful of the adverse impacts of change, especially for those who expect provisions in a particular place in the document.

In general, I have concluded that when building document templates and checklists based on documents from a single firm, or perhaps those of an industry or regional group, the best approach is to follow the existing form. However, when building templates based on publicly available documents, it is frequently true that no clear sequence emerges and in this case, it seems preferable to establish a new logical sequence.

Contract Life Cycle--document assembly is just one part of the puzzle

2010-06-07T14:12:00.000-07:00

I was an early adopter of automated drafting. Back in 1988, with an IBM 8088, 64K memory and Borland's first C compiler, I wrote basic document assembly and client management software. They were not the most user-friendly applications. They did not need to be. I was the sole user. However, the software radically changed my practice and career.

More than 20 years later, the technology of automated drafting is both powerful and easy to use. But it has yet to be broadly adopted as I naively anticipated those many years ago.

I now realize that unless the entire contract life cycle is automated—not just the drafting bit—then automated drafting can be expensive, limited in utility and potentially unsustainable.

The complete life cycle has four main elements, which when systematized, creates a virtuous feedback loop.

1. Production

The first element in the life cycle is a means to efficiently produce documents. Over the years, drafting has changed little. We can start with a blank page (very inefficient and very rare), a document assembly system (very efficient, but rare), a model form (efficient, but infrequent), or the last closest document (inefficient and very common). Why is repurposing the last draft inefficient? Unless, you are drafting a particular type of document daily, you have to read through all its terms and adapt them to current needs. Moreover, any drafting improvements are captured in a particular document, which may or may not form the basis of the next draft project.

2. Automation

The precursor to efficient drafting is some means to organize the material. Typically, this consists of a checklist (or outline) and a clause library. The first time I tackled a large scale automation project, I did it manually. I asked the lawyers in an estate planning group to give me copies of their forms and exemplar documents. When printed out, the stack of documents was about 2 feet high. I might have used less, but that would have risked missing important variations.

My approach was to find the fattest document (on the grounds that it likely contained the most number of clauses) and then list each of its clauses in a database. I then went serially through the pile and for each document added clauses to the database that I had not seen before. By the end of the process, I had a list of 250 unique clauses for Testamentary Wills and 350 unique clauses for Trusts. With this clause library, the system could construct any Will or Trust. The next step was to find the range of language for each clause. As you can imagine, the approach—while thorough—was very time consuming, taking about 3 months for each document type.

3, of course, months is far too much time. A set of 20 documents would take 5 years to automate. It is therefore not surprising that such efforts have been limited to those practice areas that frequently use a small number of documents, or have need for less complex forms. In order to reduce the time, and costs, there are two approaches: (a) reduce the number of input documents, or (b) automate the process of creating the document outlines and clause libraries. I have taken the later approach. (See, Empirical Analysis: What's Market?)

3. Review

The third element of the contract life cycle is document review. This process is typically more formalized in corporate legal departments compared to law firms. Frequently legal departments will have different levels of review depending on the nature of the transaction and its contract value.

This element of the contract life cycle is, however, absent from document assembly systems, significantly limiting their utility. Indeed, for all the money spent on developing document automation systems, they only assist the lawyer when she or he is tasked with creating a first draft. They cannot help with the more common task of reviewing a document.

While other professions, notably airline pilots and physicians, have widely adopted the use of checklists, lawyers rely on their experience, skill and recall to ensure that transactional documents capture the business needs of the deal. As with other elements of the life cycle, absent of some form of automation, the cost of creating and maintaining deal checklist is likely cost prohibitive.

4. Audit

The final stage of the life cycle addresses to need to monitor usage of the precedent systems. Again, audit systems are typically lacking in most document assembly solutions. As a result, they lack a means to efficiently maintain their collections. The challenge has always been that the templates are constructed in the assembly system, but edited in a Word processor, where such changes cannot be easily or automatically picked up by the assembly software. Over time, the edited documents get "out-of-sync" with the assembly systems and at some point the drafting templates have to be re-created. Again, lacking an automated system, such maintenance can be just as expensive as the initial cost of creating the assembly system.

5. Conclusion

If we do consider the entire life cycle: (a) setup costs can be reduced by automating template creation, (b) utility can be added by providing a means to review contracts, and (c) the system can be maintained through a process of continuous improvement by feeding new documents back into the system.

Contract Building Blocks—the low hanging fruit of standardization

2010-05-25T15:08:00.000-07:00

One of the challenges to creating contract templates as a reference standard is that a yardstick must be built for every document type; just as we need spell checkers for each language. Nevertheless, there are shared characteristics that can be exploited across all document types.

Virtually all contracts follow the same basic structure. While we may give these elements different labels, the basic organization of bi-lateral and multi-lateral contracts can be described as follows:

Statement of agreement and identification of the parties
Form and mechanics of the transaction
Representations and Warranties
Conditions Precedent
Covenants (ongoing promises)
Term and Termination (Events of Default)
Limitation on Liability
Indemnification
General Provisions (Miscellaneous)

With the exception of the form and mechanics of the transaction, legal agreements share many of the same terms and provisions. Furthermore, we can predict the likely degree of similarity of each building block. For example, the General Provisions will likely be more consistent across a wide range of agreements compared to Termination provisions. I would predict that the next most consistent terms can be found in the Representations and Warranties.

Consistency across all documents offers an opportunity to standardize terms "horizontally" or at least across blocks of related agreements. Then applying the wisdom of the 80/20 rule, a relatively simple 3-step approach can realize significant productivity and quality gains.

First, create a list of all clauses in each common contract section (e.g. Miscellaneous, Covenants, or Representations and Warranties).

Second, mark each clause as either standard or deal-specific.

Third, build a library containing the standard and alternative language for each clause.

Simple. However, I should disclose that I've received significant push-back on standard document building blocks. In one case, I was told that is would be impossible to create a standard Miscellaneous section of boiler-plate terms because, for example, the assignment clause requires customization to each deal. Of course, terms must be tailored to the transaction. However, the variations are predictable and can be supplied. Others have warned that clauses are dependent on the terms of other provisions and therefore cannot be read in isolation. It is true that some deal terms are conditional on other provisions, but again such conditionality can be predicted and, where it exists, it should be clearly identified to prevent mistakes in the use of precedent.

As an example, we can apply the approach to the Miscellaneous section of the set of 106 intellectual property security agreements analyzed in a prior post. The complete list contains 32 clauses shown in the chart below where the blue bar shows the commonality (frequency) of each clause and the yellow bar display the language consistency (variance), based on calculation of standard deviation.

If we focus on the 8 most common clauses appearing in at least 1/3 or more the documents, we can see that the language is universally more consistent. For the less common clauses there appears to be more divergence: some highly consistent; others very inconsistent.

In non-mathematical terms, the analysis provides additional support for the 80/20 rule, namely: in the case of frequently appearing clauses there is already broad consensus on the standard language. And, such consensus can hopefully reduce some of the political hurdles associated with contract standardization.

Latent Legal Market Revisited—A Rare Win-Win

2010-05-18T07:26:00.000-07:00

Law firms want high value "bet-the-business" work, where no effort is spared and legal fees are not questioned. As many commentators have pointed out this market is shrinking and the number of law firm specializing in this type of work is dwindling.

Ever since I picked up a computer and started programming, I've thought about the other end of the market: the low margin business. I've pitched the concept to many firms with very limited success. And, described in terms of "let's go after low value business" lack of interest is hardly surprising.

From the Law Firm's Perspective

First, the desired high margin business is also very low volume. The seemingly less desirable low margin business is high volume. I suspect the total value of low margin business is at least as large as high margin work.

Second, another rationale for avoiding routinized work is that it may be perceived as less intellectually challenging. However, I would point out that what a simple individual representation may lack in challenge is more than supplemented when the goal is to meet the needs of all present and future clients in a systematized and packaged legal service.

Third, standardizing lower value work (NDAs, employment agreements, sales agreements, etc) is an excellent training vehicle for associates, employing underutilized lawyers.

From the Client's Perspective

General Counsel is challenged not only to reduce their outside legal fees—more likely than not comprising the non-standard, high value work—but also their internal costs. And, for every merger agreement executed by a business, they are likely hundreds of employment agreements. In order to reduce costs and increase quality, many, in-house departments, for example Cisco, have invested in standardization projects. But, such efforts still represent a small fraction of the overall volume of work.

Combining Interests

Rather than describe the opportunity as "low value" business, there are better marketing approaches. Employ law firm associates to build standard forms and document assembly systems for their clients, using the expertise of the firm's senior attorneys to ensure adherence to best practices. The law firm bills for its legal services, the client benefits from reduced cost. Moreover, if law firms fail to assist business reduce their day-to-day costs, will in-house lawyers invest in document standardization forever cutting outside counsel out from this line of work?

How large is the low-margin, high volume market? In order to estimate the cost-benefits of document standardization, I've built an ROI calculator to weigh the cost of building standard templates compared to time required to draft documents using the "last draft" method. Here's a link to the calculator. If I'm right then the cost savings to businesses are very significant and scaled up to the entire market, it's a huge opportunity for law firms.

Measuring Commonality and Consistency—Do the Numbers Tell a Story?

2010-05-12T09:41:00.001-07:00

Those who have read a few posts in the blog know that much of my research is based on pure statistics. And, of course, we know the adage: "lies, damn lies, and statistics." But, can they tell a story? Can they offer some insight into how lawyers use precedent and how precedent evolves over time?

Where clauses are repurposed from an earlier precedent, they remain very consistent. Is that because they are copied but not substantially changed, or is it because the language of a particular contractual provision can only be defined in a relatively limited number of ways?

Early research confirmed that the consistency of legal document can be measured. The results of the analysis uncovered an unexpected conclusion: the more sophisticated the underlying transaction, the more likely the document will be consistent. A merger agreement, for example, is more likely to be consistent than an employment agreement.

In order to further test these propositions, we must distinguish between: (a) the elements of a contract and (b) how each of those elements is defined. Mathematically we can measure these values by commonality and consistency. Commonality is calculated by the frequency of a particular clause. For example, we may find a governing law clause in 90% of the sample agreements, while a severability clause may appear in 50% of the documents. Consistency is calculated by the standard deviation of a factor itself calculated primarily by the commonality of the words in the clause.

I recently ran these statistical measures of commonality and consistency for merger agreements and intellectual property security agreements. The charts display the outline organization of the agreement and for each caption, the bar chart shows the commonality of the clause in the blue bar and its language consistency in the yellow bar. You can click on the images above or the links in this paragraph to see a larger (readable?) image.

In the case of the merger agreement, we see high commonality of clauses and high consistency of language. Indeed, the presence of these two factors indicates a market standard. However, in the case of the intellectual property security agreement we see only two common clauses: grant of security interest and rights and remedies. However, all clauses (whether common or uncommon) display a high degree of language consistency.

What observations can be draw? First, there is great opportunity to standardize (and enjoy the efficiencies thereof) in the reps, covenants and miscellaneous sections. It is truly remarkable the variation in the clause selected. Second, the greatest opportunities for standardization will likely come from building deal checklists, not just clause libraries. It appears that we generally agree as to the language of a given clause, but there is less agreement on what clauses should be included.

The DNA of Contracts—identifying and tracing genetic markers in legal agreements

2010-04-26T02:35:00.000-07:00

What we considered plagiarism in law school becomes good business in practice. Lawyers routinely repurpose internal precedent and wholesale copy documents available on EGDAR and other free and subscription sources. It has become so prevalent that transactional documents are becoming more standardized simply through the act of reuse. (See, Measuring the Consistency of Legal Documents)

Such reuse allows contract analysis to trace back lines of precedent and detect lines of similar documents having the same origin, just as we can trace relationship in the genetic code of living organisms. This post will explore two types of genetic markers in deal documents.

Last week, I studied a set of 106 Intellectual Property Security Agreements, collected from EDGAR. The set comprises 100 base clauses and between 5 and 7 distinguishable genetic lines of contract, depending on how granular you distinguish one thread from another. Most curiously, they share only two common clauses (Grant of Security Interest and Rights and Remedies) and the majority of the security agreements filed with EDGAR containing just these two clauses come from a single lender (Silicon Valley Bank).

(a) Structural Commonality

The first method of detecting shared characteristics is the structure of the documents, namely the presence or absence of particular clauses. The graphic shows the structure of 5 core IP Security Agreement models, each built from 10 or more example agreements. Clauses highlighted in green show the clauses common to all models; clauses in red are unique to each model.

While the short form, Model 01, may not predate the others, it has a foundational relationship to all the other models.

(b) Language Commonality

The second method is to look for similar blocks of text. At the end of this post, because it is a bit long, I added the text of a Power of Attorney clause from 6 different IP Security Agreements. They clearly were based on a common ancestor. And, interestingly, most have some relationship to Minneapolis.

These language markers can be even more granular. Each clause may itself be constructed from sub-elements. The approach first separates standard from deal specific language. And, within the standard language, we can see a remarkable degree of consistency. For example, within the Organization clause in the Representations and Warranties of a Credit Agreement, we can detect clause components, and statistically measure the consistency of the language.

Document 1
SECTION 3.01. Organization; Powers.

Each Credit Party is duly organized, validly existing and in good standing under the laws of the jurisdiction of its organization

has all requisite power and authority to carry on its business as now conducted

and, except where the failure to do so, individually or in the aggregate, could not reasonably be expected to result in a Material Adverse Effect,

is qualified to do business, and is in good standing, in every jurisdiction where such qualification is required.

Document 2
Section 4.1 Corporate Existence and Power.

The Borrower and its Subsidiaries are each corporations duly incorporated, validly existing and in good standing under the laws of their respective jurisdictions of incorporation

, and

are each duly licensed or qualified to transact business in all jurisdictions where the character of the property owned or leased or the nature of the business transacted by them makes such licensing or qualification necessary

, except where the failure to be so licensed or qualified (i) will not permanently preclude the Borrower or any Subsidiary from maintaining any material action in any such jurisdiction even though such action arose in whole or in part during the period of such failure, and (ii) will not result in any other Material Adverse Change.

The Borrower has all requisite power and authority, corporate or otherwise, to conduct its business, to own its properties and to execute, deliver, and perform all of its obligations under, the Loan Documents, the Pledged Securities, the Related First Mortgage Bonds and the Indentures.

Common Language
The [parties]:

(a)

are each duly incorporated, validly existing and in good standing under the laws of their respective jurisdictions of incorporation

,

(b)

each have all requisite power and authority, corporate or otherwise, to conduct its business, to own its properties and to execute, deliver, and perform all of its obligations under this Agreement

, and

(c)

are each duly licensed or qualified to transact business in all jurisdictions where such licensing or qualification necessary

Using the Markers

Identifying and tracing the genetic makers enables the categorization of documents into sub-types or models. Then by identifying the characteristics of each model, it is then possible to more clearly see how make the process more efficient. Rather than review 100's of similar documents, we can now analyze a small handful of representative models and determine whether these represent distinct business transactional or are more reflective or regional and personal preferences.

Example of common language markers in IP Security Agreements

Below is a Power of Attorney clause from 6 different security agreements. The caption shows the title of the agreement, the name of the lender and the date of the agreement. In the text of the clause, words in green text show consistent language; words in black text and underlined displays divergent language.

TRADEMARK SECURITY AGREEMENT
TCF National Bank (Golden Valley); October 1999
i) POWER OF ATTORNEY. TO FACILITATE THE SECURED PARTY'S TAKING ACTION UNDER SUBSECTION (g) AND EXERCISING ITS RIGHTS UNDER SECTION 6, EACH DEBTOR HEREBY IRREVOCABLY APPOINTS (WHICH APPOINTMENT IS COUPLED WITH AN INTEREST) THE SECURED PARTY, OR ITS DELEGATE, AS THE ATTORNEY-IN-FACT OF SUCH DEBTOR WITH THE RIGHT (BUT NOT THE DUTY) FROM TIME TO TIME TO CREATE, PREPARE, COMPLETE, EXECUTE, DELIVER, ENDORSE OR FILE, IN THE NAME AND ON BEHALF OF SUCH DEBTOR, ANY AND ALL INSTRUMENTS, DOCUMENTS, APPLICATIONS, FINANCING STATEMENTS, AND OTHER AGREEMENTS AND WRITINGS REQUIRED TO BE OBTAINED, EXECUTED, DELIVERED OR ENDORSED BY SUCH DEBTOR UNDER THIS SECTION 3, OR, NECESSARY FOR THE SECURED PARTY, AFTER AN EVENT OF DEFAULT, TO ENFORCE OR USE THE TRADEMARKS OR TO GRANT OR ISSUE ANY EXCLUSIVE OR NON-EXCLUSIVE LICENSE UNDER THE TRADEMARKS TO ANY THIRD PARTY, OR TO SELL, ASSIGN, TRANSFER, PLEDGE, ENCUMBER OR OTHERWISE TRANSFER TITLE IN OR DISPOSE OF THE TRADEMARKS TO ANY THIRD PARTY. THE DEBTORS HEREBY RATIFY ALL THAT SUCH ATTORNEY SHALL LAWFULLY DO OR CAUSE TO BE DONE BY VIRTUE HEREOF. THE POWER OF ATTORNEY GRANTED HEREIN SHALL TERMINATE UPON THE TERMINATION OF THE CREDIT AGREEMENT AS PROVIDED THEREIN AND THE PAYMENT AND PERFORMANCE OF ALL OBLIGATIONS (AS DEFINED THEREIN).

PATENT AND TRADEMARK SECURITY AGREEMENT
Wells Fargo Bank NA; December 29, 2006
k) POWER OF ATTORNEY. To facilitate the Secured Party's taking action under subsection (i) and exercising its rights under Section 6, the Debtor hereby irrevocably appoints (which appointment is coupled with an interest) the Secured Party, or its delegate, as the attorney-in-fact of the Debtor with the right (but not the duty) from time to time to create, prepare, complete, execute, deliver, endorse or file, in the name and on behalf of the Debtor, any and all instruments, documents, applications, financing statements, and other agreements and writings required to be obtained, executed, delivered or endorsed by the Debtor under this Section 3, or, necessary for the Secured Party, after an Event of Default, to enforce or use the Patents or Trademarks or to grant or issue any exclusive or non-exclusive license under the Patents or Trademarks to any third party, or to sell, assign, transfer, pledge, encumber or otherwise transfer title in or dispose of the Patents or Trademarks to any third party. The Debtor hereby ratifies all that such attorney shall lawfully do or cause to be done by virtue hereof. The power of attorney granted herein shall terminate upon the termination of the Credit Agreement as provided therein and the payment and performance of all Indebtedness.

PATENT AND TRADEMARK SECURITY AGREEMENT
Wells Fargo Bank NA; March 31, 2006
k) Power of Attorney. To facilitate the Secured Party's taking action under subsection (i) and exercising its rights under Section 6, the Debtor hereby irrevocably appoints (which appointment is coupled with an interest) the Secured Party, or its delegate, as the attorney-in-fact of the Debtor with the right (but not the duty) from time to time to create, prepare, complete, execute, deliver, endorse or file, in the name and on behalf of the Debtor, any and all instruments, documents, applications, financing statements, and other agreements and writings required to be obtained, executed, delivered or endorsed by the Debtor under this Section 3, or, necessary for the Secured Party, after an Event of Default, to enforce or use the Patents or Trademarks or to grant or issue any exclusive or non-exclusive license under the Patents or Trademarks to any third party, or to sell, assign, transfer, pledge, encumber or otherwise transfer title in or dispose of the Patents or Trademarks to any third party. The Debtor hereby ratifies all that such attorney shall lawfully do or cause to be done by virtue hereof. The power of attorney granted herein shall terminate upon the termination of the Credit Agreement as provided therein and the payment and performance of all Obligations.

PATENT AND TRADEMARK SECURITY AGREEMENT
Pala Investments Holdings Limited (Channel Islands, Switzerland); December 12, 2007
k) POWER OF ATTORNEY. To facilitate the Secured Party's taking action under subsection (i) and exercising its rights under Section 6, the Debtor hereby irrevocably appoints (which appointment is coupled with an interest) the Secured Party, or its delegate, as the attorney-in-fact of the Debtor with the right (but not the duty) from time to time to create, prepare, complete, execute, deliver, endorse or file, in the name and on behalf of the Debtor, any and all instruments, documents, applications, financing statements, and other agreements and writings required to be obtained, executed, delivered or endorsed by the Debtor under this Section 3, or, necessary for the Secured Party, after an Event of Default, to enforce or use the Patents or Trademarks or to grant or issue any exclusive or non-exclusive license under the Patents or Trademarks to any third party, or to sell, assign, transfer, pledge, encumber or otherwise transfer title in or dispose of the Patents or Trademarks to any third party. The Debtor hereby ratifies all that such attorney shall lawfully do or cause to be done by virtue hereof. The power of attorney granted herein shall terminate upon the termination of the Debenture as provided therein and the payment and performance of the Indebtedness.

TRADEMARK SECURITY AGREEMENT
Commerce Bank NA (New York); September 25, 2003
i) Power of Attorney. To facilitate the Secured Party's taking action under subsection (h) and exercising its rights under Section 7, the Debtor hereby irrevocably appoints the Secured Party, or its delegate, as the attorney-in-fact of the Debtor with the right (but not the duty) from time to time to create, prepare, complete, execute, deliver, endorse or file, in the name and on behalf of the Debtor, any and all instruments, documents, applications, financing statements, and other agreements and writings required to be obtained, executed, delivered or endorsed by the Debtor under this Section 3, or, necessary for the Secured Party, after an Event of Default, to enforce or use the Trademarks or to grant or issue any exclusive or non-exclusive license under the Trademarks to any third party, or to sell, assign, transfer, pledge, encumber or otherwise transfer title in or dispose of the Trademarks to any third party. The Debtor hereby ratifies all that such attorney shall lawfully do or cause to be done by virtue hereof. The power of attorney granted herein is coupled with an interest and shall be irrevocable until the termination of the Loan Agreement as provided therein and the payment and performance of all Obligations (as defined therein).

PATENT AND TRADEMARK SECURITY AGREEMENT – PARENT
St. Paul Venture Capital VI, LLC; June 6, 2001
k) POWER OF ATTORNEY. To facilitate the Secured Party's taking action under subsection (i) and exercising its rights under Section 6, the Debtor hereby irrevocably appoints (which appointment is coupled with an interest) the Secured Party, or its delegate, as the attorney-in-fact of the Debtor with the right (but not the duty) from time to time to create, prepare, complete, execute, deliver, endorse or file, in the name and on behalf of the Debtor, any and all instruments, documents, applications, and other agreements and writings required to be obtained, executed, delivered or endorsed by the Debtor under this Section 3, or necessary for the Secured Party, after the occurrence and during the continuance of an Event of Default, to enforce or use the Patents or Trademarks or to grant or issue any exclusive or non-exclusive license under the Patents or Trademarks to any third party, or to sell, assign, transfer, pledge, encumber or otherwise transfer title in or dispose of the Patents or Trademarks to any third party. The Debtor hereby ratifies all that such attorney shall lawfully do or cause to be done by virtue hereof. The power of attorney granted herein shall terminate upon final and indefeasible payment and performance of all Obligations.

Related Note:

Some of you might ask is it possible to trace back the lines of precedent to the original author? Probably not: we lack sufficient historical data to go back that far. Lawyers have been repurposing forms for a very long time. The earliest I can trace the development of forms is 1392 when the Worshipful Company Scriveners first employed notaries.

OK that was a bit facetious; another way to address the question is to ask whether an attorney could claim copyright for their agreements. Or, put another way; is the wholesale copying of precedent from EDGAR or other sources a violation of fair use? In most cases the answer is probably not. In order to garner protection the drafter would have to show originality—difficult when it's easy to show that vast tracks are plagiarized or show that it is a protected compilation (a reordering of existing materials)—but such recompilation could also be found in numerous pre-existing precedent. See, Copyright and the Contract Drafter, Kenneth A. Adams, New York Law Journal Wednesday, August 23, 2006.

Open Source—A Dose of Tomato Juice

2010-04-21T07:48:00.000-07:00

A recent exchange between Ron Friedmann and Ken Adams takes differing views on the value of open source repositories of transactional precedent. Ron Friedmann proposes a thought experiment to determine whether a common pool (a Corpus) would increase lawyer efficiency. Open Source Law - How Big a Savings? Ken Adams responds by saying this approach overlooks the fact that "the Corpus would be a dead skunk in the middle of the road, stinkin’ to high heaven." Open-Source Law and Contract Drafting—A Dead Skunk in the Middle of the Road. I would like to add some tomato juice to the discussion.

1. Filtering to Core Language

We have enjoyed access to enormous information resources for a relatively short period of time. For many there still uncertainty whether is it a vast repository of expertise or just noise?

One camp argues for the wisdom of the crowds; asserting that the many smarter than the few. Others believe crowd-sourcing is inherently unreliable. Indeed, there is the good, the bad and the downright ugly. The problem is that most people of my generation lack adequate filtering tools to handle the volume of information now available. What can we do?

First, we can rely on experts. Indeed, a comment to Ron's article expresses doubt whether the Corpus can replace the tried and true approach of "walking down the corridor" and finding an expert.

Second, we can develop our personal filtering skills. For me, the professional journey has been a passage of exposure to greater and greater amounts of information. When I first started practice, my "world" comprised a few colleagues and one tax treatise. It was a wonderfully comfortable environment with hard edges and nothing beyond its narrow purview: at least as far as I knew. But, for me, this world it doesn't exist anymore and I have no intention of returning to its narrow confines.

Third, we can build advanced technologies. Imagine Westlaw or Lexis without faceted search (court, jurisdiction, subject matter etc.) or validation tools (e.g. KeyCite and Shepard's). The results would be chaotic. They might not reek, but they might have an off-putting odor.

We need different tools to manage the Corpus. Through the lens of contract analysis—virtual tomato juice—you can see that in every deal there is, in fact, a core of standard of non-negotiated language. You can also see a vast penumbra of variability. And, if all you see is the penumbra, then it will likely look very messy.

2. Checklists of Deal Terms

Of course, if the repository is in fact "a motley assemblage exhibiting, in general, deficient and inconsistent language," (Adams) then there would be little point in applying personal, editorial or technical filters on such a collection.

But it is not just a repository of legal terms; it is also—and perhaps more importantly—a compendium of business terms.

For example, it is one thing to know how to write an IP ownership provision in a software development agreement; it is equally important to understand what other business terms should be included to protect the developer, owner and licensee. We gain this experience over years of practice reading hundreds of agreements—some good; some not so good. The problem today, compared to my starting point is that there is so much information: and no librarian.

Our experience in reading voluminous precedent allows us to construct mental checklists of legal and business terms. Just as technology can be applied to vast repositories, such as the Corpus and cut through the noise to the core language, it can construct term sheets of all the different deal elements. Should you, for example, include a clause capturing derivative technologies in the software development agreement? What is a derivative technology clause?

There is a vast amount of knowledge locked up in repositories such as EDGAR. We are just now developing the keys to unlock its wisdom.

Thoughts on Building a Useful Taxonomy for Transactional Documents

2010-04-15T09:06:00.000-07:00

One of the most important tasks in developing contract standards is to construct a taxonomy of all legal agreements. It is a daunting task. And, it probably does not have a right answer. But you have to start somewhere.

I have been fortunate to work with one of the best classifiers: Dan Dabney of ThomsonReuters. His paper—A Brief Practical Introduction to Taxonomies—is a must read.

1. Taxonomy Structure

Dan describes the three main determinates of a taxonomy. "The broad, structural issues that seem to attract attention are these: (1) how many lines should the classification have; (2) how deep or flat should the classification be; and (3) what should be the classifications at the top level or two." To summarize Dan's position: the organization should present a clearly articulated, editorialized viewpoint that captures the essence of the particular field of study. The structure is then determined by the level of specificity desired (i.e. the number of the lines in the taxonomy). Each topic page should typically contain about 10 sub-items. The rule of 10 then dictates the number of levels by "the common logarithm of the number of lines it contains". In other words for a 100 line taxonomy, you need two levels; for a 1,000 line taxonomy, you will require 3 levels.

2. Taxonomy Organization or Theme(s)

While the number of levels can be determined by objective guidelines; the organizational theme presents far more subjective challenges. A clear articulation of the organization requires definition of the core concepts or characteristics. But, there are typically many overlapping themes that cannot be separated. To quote from Dan again: "Nearly any legal idea has several aspects to it—the legal theory involved, the jurisdiction, the nature of the parties, the procedural posture, and so forth. In a browsable taxonomy the ideas are ordered in such a way that the most basic or general ideas are the principles of classification for the higher levels, and the more particular ideas determine classification for the lower levels. Setting up the high levels of a taxonomy is an exercise in deciding what is important." To some degree, you have to accept that the categories will not be mutually exclusive. In the case of legal contract, for example, some of the competing organizational themes may include:

Type of contract (unilateral, multi-lateral)
Nature of the bargain (sale, exchange, license)
Nature of the asset, right or interest

3. Taxonomy Levels (Document Anatomy)

As a general rule, developing a taxonomy can be approached from both a top-down (deductive reasoning methodology) and a bottom up (inductive approach). Whittaker and Breininger offer sound advice: "First, develop the upper levels of structure into the major categories. Try not to have more than ten large subject areas; if you have more than that, it will make it difficult to navigate through the hierarchy. One structure might be to organize around major domains (products, human resources, geographies, for instance)." Taxonomy Development for Knowledge Management

(a) Top Level-Organizing Theme. In addition to understanding the theory of taxonomy development, there are a few practical tips. First, draw from existing classifications.

Subject matter (e.g. law school: HLS Course Catalog)
Area of practice (law firm: JonesDay Practice Groups)
Area of business (business: GE's business departments)

Second, look to the next level in the taxonomy, use technology to help see the patterns, and group lower level by its common characteristics. I do this by creating a list of all agreement types and then running word frequency analysis on the agreement names. I've been keeping a running track of agreement types. My list is by no means complete and it probably has duplicate entries and concepts. However, should there be an interest in collaboratively developing a taxonomy, I have made the list available here. And, for those who want to try the word frequency approach, there are many macros available on the web, such as: http://www.authorsden.com/categories/article_top.asp?catid=20&id=39307).

(b) Contract Types

The second level of the taxonomy can be an organized list of agreements. This list might capture key variations, such as:

nature of the parties (individual, trust, corporation, partnership etc.);
nature of the asset or consideration (cash, real estate, stock, intellectual property);
nature of the transaction (purchase, exchange or license

(c) Clause Library

The third level lists the clause elements of each contract type. Here variations might capture:

Party weighting or bias e.g. an employer weighted severance clause
Geographic or jurisdictional variation

Conclusion

Agreement type and clause levels of the taxonomy can be based on empirical observations: what types of contracts exist and what do they contain? The top level organization presents a much greater challenge and perhaps is best realized through discussion, identifying an emerging consensus.

Contract Standardization—Opinions of the Key Players

2010-04-13T08:14:00.000-07:00

It is surprising to me how little discussion of contract standards is available. A web search finds a limited number of initiatives mostly from business, government and academia. Few law firms have weighed into the discussion; other than to express doubts that standardization is possible or even beneficial to their clients.

Despite the limited amount of information, we can characterize some of the opinions of the key players. For example, a recent post by Brad Feld on the utility and value of standardized seed documents for start-up companies portrays a range of opinions by business role.

Entrepreneurs. Business supported Feld's efforts to standardize. He reports that "all [the entrepreneurs] cheered me on, told me how much they hated paying lawyers for their seed documents, and asked if there was some way to reduce everything to a few standard pages, not unlike a mortgage document." (Id)

Comments: Building a successful business requires entrepreneurs to spend wisely. Most are very good at assessing absolute and relative value. One of the commentators reported paying $70,000 for a set of documents. On a relative scale, this fee is equivalent to the price of 2 nicely equipped family cars; or the average annual income for two families. Others commenting on the post, suggested a cap at a much more reasonable $10,000.

Lawyers. Feld reported that the majority of respondents were lawyers. Many offered to "share their seed documentation, and work to make sure that seed documents were complete and acceptable to their firm." (Id)

Some pointed out the lack of incentives to standardize. "Lawyers have the incentive to standardize their templates internally and train their staff to use them, but I don't think the lawyers have any incentive reduce our costs by 85%--$70k to $10k. Programmers and IT staff may occasionally work themselves out of a job, but lawyers rarely do.…I agree that it would take a high-profile lawyer with iconoclastic tendencies to make any splash here because they wouldn't be affected by the disincentives--they've already made it and it would increase their standing and ego even further. It could also be a prominent VC firm that standardized their own docs and encouraged others to follow. The lawyers as a collective will never do it themselves." (Id)

Others were skeptical of any effort of standardization. For example, a lawyer commenting on Richard Susskind's Article "Legal profession is on the brink of fundamental change" published in the London Times, October 19, 2007, expressed the opinion: "I can see that certain commoditised work will become more automated, and thus less remunerative for those law firms who have not adapted in response, but this may hurt the 'mega firms' who are more dependent on volume business more than others. Maybe I am deluding myself, but I cannot think of one deal I have worked in recent years that could have been reduced to a standardised computer programme, and with a few exceptions even documentation has been too 'bespoke' to be readily standardised."

Comments. The open discussion of price will have significant impacts. Under the hourly billing system, price comparison was impossible. With fixed fees and caps, cost is more transparent and fee ranges will likely settle at the lower end of the spectrum. Some will be able to provide the documents and counsel for $10,000 because of their experience; others may implement technology to reduce costs.

Venture Capitalist. Standard deal terms are unlikely to reduce the costs. While they may make sense for internal efficiencies and for training purposes, the legal documents are not the key factor in determining the amount of time required to raise capital. "This time frame is not driven by legal, it is driven by the individual investor. It’s not going to change with another set of standardized docs." (Why the world doesn’t need a standardized set of seed investment documents) Furthermore, VC's expressed the opinion that standardized documents will not reduce lawyer time. The "best lawyers need to 'add value' so they fight over every random point, because there is that one in a thousand potential circumstance where it will actually really matter." (Id) Finally, VC's argue that the documents are not a key factor in raising subsequent rounds of financing

Comments. If legal documents are not critically important to the overall business objectives, then why spend so much time and money on them? As the author points out any of the existing seed templates "are probably good enough to not blow up your next round of financing." While this is very difficult challenge for lawyers, who are tasked with securing the best terms for their clients and counsel them on an infinite range of risks, the scorched earth approach requires balance with a business sense of value.

Lawyer-Technologist. Standardization of deal documents should not focus simply on cost reduction. It is also designed to establish a standard and ensure quality. This can be achieved in a number of different ways.

First, conformity in theory may be realized through the use of standard forms; namely, a contract containing set terms and provisions. But, absent of common interest, the establishment of a single set of standard seed documents seems extraordinary unlikely. The more likely outcome of such effort would be numerous competing models, only making matters worse.

Second, conformity may also arise through the identification of comparative and market standards. As this blog will constantly assert, standards are not just forms, they are benchmarks. Standards are not limited exact words and phrases to be reapplied in rote fashion. Language—and the English language in particular—is far too nuanced for such an approach to be workable. For example, I can say. "The cat sat on the mat." Or, I can say: "On the mat sat the cat." The concept and intent are the same. Equally, we can express an indemnity provision in a variety and range of ways. They are all indemnity clauses and the range of possible variants capture different party bias and different ranges of legal and business risk.

I'll end this post with some thoughts from academia: "Traditional contract theories malign standardized contracts for increasing information costs. The usual argument is that standardized contracts hide or backload terms, confuse consumers, and raise the costs of information. But everywhere else that standardization is studied (for example, standardization in industrial manufacture, computer programming, or medical consent), standardization lowers the cost of information. Thus, the anti-standardization doctrines of adhesion and unconscionability seem adrift in an age of mechanized production and electronic contracting." The Cost Of Consent: Optimal Standardization in the Law of Contract, Joshua Fairfield, Associate Professor of Law, Washington & Lee University School of Law.

How Will Contract Standards Emerge?

2010-04-05T05:39:00.000-07:00

A few days ago, I decided to dip my toe into the world of blogging. I've posted three items, in part to see how much effort it is to maintain a blog. Indeed, see if I could keep it up and write something interesting. I thought I would keep it quiet for sometime as I played in own private sandbox. I thought to myself: "no-one will read the first few posts anyway." Obviously, I'm a novice in the world of social media. In fact, I am amazed at the speed of connectivity.

The concept of this blog is simple. Richard Susskind describes the evolution of legal services from bespoke (custom) services to ultimate commoditization. It is the intent of this blog to document this metamorphosis (from the perspective of transactional practice) and, from time-to-time, humbly offer ideas for lawyers to benefit from these changes. I see Richard as eloquently laying out the theory; I propose to discuss how to put his ideas into practice. It may even be seen as self-promotion of my company. I've been working on this stuff for many years, and yes, I'm deeply personally, passionately and commercially interested in this space.

Richard has pointed out that change will occur upon the back of the twin forces of economics and technology. The economics appear to be in place. Is the technology? What technology will drive the revolution? Personally I don’t think its email, communication or social media, or indeed any technology that's generic to all businesses. I think it must be legal-specific. It must be technology, or rather technologies that change the very nature of the business and practice of law. It must automate some or all the tasks and activities specifically performed by lawyers. For example, do you think a better search engine bring about the changes Susskind foresees?

The first step in Susskind's continuum is the transition from customized to standardized services. It sounds simple enough. But, how will this come about? How are standards established?

Joe Bartlett wisely observes: "standardization of model documents remains like the weather; as Mark Twain put it: ‘a topic of general conversation but as yet nobody is doing anything about it,’ or at least without the success the need would dictate." http://www.joebartlettvc.com/compact_forms

In general, standards may arise by (a) promulgation by an authoritative body, (b) directive of a party with superior bargaining power, or (c) consensus among a group with common interests. In addition to these methods, I propose another way: by identification of a standard as a benchmark metric.

1. Non-Negotiated Agreements

In fact, the clear majority of legal agreements in existence are standard forms; an agreement type sometimes referred to as contracts of adhesion, where one party presents terms to the other in a form of "take it, or leave it" proposal. These types of legal agreements range from mortgage loans, shrink-wrap or click-wrap license agreements to terms on the back of sports or entertainment tickets.

2. Negotiated Agreements; Common Interests

In the domain of negotiated contracts, there are far fewer examples of standard forms. They are typically limited to circumstances where the parties have shared interests. Complexity is not in itself a factor. Indeed, one of the most complicated documents ever devised has been standardized—the ISDA Master Agreement. This standard form comprises a preprinted master agreement (either local jurisdiction single currency or multicurrency-cross-border), a schedule, and a form of confirmation. It can be quickly adapted to individual transactions without the need for document assembly technology simply by completing the schedule, which serves as a term sheet. In the case of the derivatives market "[s]tandardization of format permits dealers to reduce their transaction costs, and end users who may have relationships with more than one dealer can quickly develop expertise using the ISDA or similar formats and thus reduce their costs as well." The ISDA Master Agreement - The Rise and Fall of a Major Financial Instrument, Bushan K. Jomadar, University of Westminster - Westminster Business School; University of Westminster - School of Law, August 24, 2007.

Other industry groups have joined together to establish standards in their market, notably the American Institute of Architects. According to their web site, the AIA provides "a comprehensive suite of contractual documents that address the full spectrum of design and construction projects, large and small." In addition, a handful of publishers offer Master Specifications for all build projects (e.g. ARCOM). However, in the field of negotiated agreements, the ISDA and AIA standards are more the exception rather than the norm.

3. Negotiated Agreement; No Ongoing Shared Interests

The majority of agreements drafted and negotiated by attorneys in private practice are negotiated. They are typically drafted based on prior precedent; the "last draft" approach. While it is pragmatic, it also brings forward the good, the bad, and the ugly. Moreover, improvements are not systematically collected; they are more frequently lost to the black hole of electronic filing systems.

While there is clearly room for debate on the merits of the last draft approach, we do have means to measure contract consistency, whether manually (as detailed in the blog post describing empirical analysis of contracts) or with statistical tools (such as those developed by kiiac). Based on these methods, how far are we from standardization today? A long way. One of my yardsticks is the simple seemingly innocuous governing law clause. When we analyze a set of agreements from a single firm, we will rarely find two clauses exactly the same. Since at least some of these documents were based on the last draft, it means that someone specifically edited the language. And in my opinion, virtually all the edits are semantic; the intent of the clause is largely unchanged. And, even if revisions do need to be made, why not pre-define one or two standard variants? Or better still; why not create a range of standardized Miscellaneous provisions. What about the Reps, the Covenants, and indemnities?

But if it is difficult in practice for lawyers in a single firm to agree on consistent language, there seems less hope for market standards. Or perhaps we need to recognize that dogmatic definition of the exact words is not realistic as an initial step towards standards. Perhaps we should think of legal agreements more like recipes in which we can recognize the basic ingredients, proportions and methods of preparation, but each chef will introduce its own variations.

A standard under this formulation is a yardstick; a metric that can evaluated on a number of different scales. It might measure, example:

Bias: the degree to which the contract is weighted in favor of one party or the other;

Clarity: the degree of readability, such as the Flesch–Kincaid readability test; (e.g. EULA Analyzer);

Legal Risk: the degree to which the agreement conforms to, or diverges from, available statutory or common law; and

Business Risk: the degree to which the terms conform to, or diverge from, market standards.

Harnessing Complexity - Contractual Building Blocks

2010-03-29T14:22:00.000-07:00

When it comes to contract automation, most lawyers think the solution is document assembly. It can, indeed, quickly and accurately generate a document based on user-selected variables.

But is hasn’t become widely adopted outside of areas such as estate planning. Why? I think there are at least three main reasons:

· It's very expensive to build and maintain
· It's a black-box that inhibits lawyerly interaction and judgment
· It works only for first draft situations; it doesn’t help with the more common task of document review

But this is not to say that document assembly is flawed in any way. It is absolutely the right tool for formulaic document generation of frequently used documents, especially where the user can benefit from guidance in selecting contract alternatives.

For all the other circumstances, are there other approaches to contract analysis and automation? I've drawn heavily on the work of Herbert Simon. His parable of the Two Watchmakers is particularly instructive to the challenges facing lawyers today.

"There once were two watchmakers, named Hora and Tempus, who manufactured very fine watches. Both of them were highly regarded, and the phones in their workshops rang frequently - new customers were constantly calling them. However, Hora prospered, while Tempus became poorer and poorer and finally lost his shop. What was the reason?

The watches the men made consisted of about 1,000 parts each. Tempus had so constructed his that if he had one partly assembled and had to put it down - to answer the phone, say - it immediately fell to pieces and had to be reassembled from the elements. The better the customers liked his watches, the more they phoned him and the more difficult it became for him to find enough uninterrupted time to finish a watch.

The watches that Hora made were no less complex than those of Tempus. But he had designed them so that he could put together subassemblies of about ten elements each. Ten of these subassemblies, again, could be put together into a larger subassembly; and a system of ten of the latter subassemblies constituted the whole watch. Hence, when Hora had to put down a partly assembled watch to answer the phone, he lost only a small part of his work, and he assembled his watches in only a fraction of the man-hours it took Tempus."

The Architecture of Complexity: Hierarchic Systems, Proceedings of the American Philosophical Society, 106, Dec 1962, 467-482.

How would this apply to legal agreements? Law firms and corporate legal departments can adopt the approach of Hora and create standard building blocks of the core contract blocks, such as Representations and Warranties, Covenants and Miscellaneous articles. These may be varied by deal type, nature of the asset and parties.

Analyzing current document sets for very similar deals reveal a remarkable varied range of clauses and specific clause language, much like the watches made by Tempus. Moreover, much of the variation in clause language is more semantic, rather than substantive.

Hierarchical modularity does not preclude rich variation. But it does avoid inefficiency. Not all clients want to buy a handmade Patek Philippe Sky Moon Tourbillon for more than One Million Euro; many would be very satisfied with equally functional, thoughtfully crafted watch for a fraction of the price.

Empirical Analysis: What's Market?

2010-03-29T06:18:00.000-07:00

In negotiating contracts, lawyers will often assert that certain terms are "market." On what basis can such a claim be made? How many documents are needed for a statistically relevant sample set? There is, in fact, only a limited amount of empirical analysis that is publically available. This post examines three academic studies.

An Empirical Analysis of CEO Employment Contracts: What Do Top Executives Bargain For?

Stewart Schwab and Randall Thomas of Cornell and Vanderbilt examine a set of 375 employment contracts, focusing on four primary data points: (a) cause, (b) good reason, (c) noncompete, (d) arbitration, and (e) stock option restrictions. The authors conclude that CEO employment agreements are weighted in favor of the CEO's. They "found evidence that CEOs have significant bargaining power in their negotiations over the terms of their employment contracts and change-of-control agreements. Furthermore, the differences between these CEO contracts and these of other corporate workers seem stark."

An Empirical Examination of Business Outsourcing Transactions

George S. Geis of University of Virginia School of Law analyzes 60 onshore and offshore outsourcing transactions in pursuit of two foundational questions: (1) how do parties write these deals; and (2) why do we observe major differences in governance terms? He concludes that outsourcing transactions are extremely diverse determining that the contracts are "[h]ighly variable, making it difficulty to draw any solid conclusions."

What’s in a Standard Form Contract? An Empirical Analysis of Software License Agreements

The most extensive study is an analysis by Florencia Marotta-Wurgler of New York University School of Law. She and her team analyzed 647 End User License Agreements (EULAs) from 598 companies. The study analyzes "23 common and important standard terms that allocate rights and risks between buyers and sellers." The study shows a significant bias in favor of the seller as shown in a Bias Distribution chart.

"An immediate conclusion is that the vast majority of the contracts in our sample are more pro-seller relative to the default rules of Article 2 of the UCC. Although EULA terms vary greatly across software markets, I find that larger and (controlling for size) younger firms tend to have more pro-seller terms than smaller and older companies. I find no evidence that firms offer worse terms with software targeted to the general public versus software targeted to larger business or corporate users."

Statistical Significance and Statistical Range

There are a number of tools on the web to calculate sample sizes. The key inputs are the size of the population (or total collection) size; sample size and answer range or spread. Using these calculators and assuming collection sizes ranging from 10,000 to 50,000 then sample size ranging from 250 to 500, as two of the studies used, give a margin of error of less than 5%.

I can confirm that when analyzing publicly available documents from EDGAR, typically drawn from a wide range of authors, a sample set of 250 to 500 documents appears to yield satisfactory levels of confidence. Much smaller sample sizes are needed, however, when analyzing documents from a single organization or documents that exhibit high consistency. In these cases, the sample size can be as few as 20 documents. It turns out that you need fewer merger agreements than employment contracts, because merger agreements are much more consistent. See, Measuring the Consistency of Transactional Documents; Ron Friedmann; It's Time To Rethink The Lawyer's Role In Dealmaking: Start By Facing Up To The New Realities, Robert A. Profusek and Lyle G. Ganske, Jones Day

Why Standardize?

2010-03-23T11:17:00.000-07:00

This blog focuses on empirical contract analysis and the identification of contract standards. The main themes will be: change; economics and metrics.

This is my first foray into the blogosphere. I plan to write at least weekly on the forces driving change in the legal industry and how lawyers can best respond and adapt.

I'm speaking on the Future of KM at ABA TechShow this week with Toby Brown from Fulbright & Jaworski. Many of you will know Toby through his well known 3 Geeks and a Law Blog. As I get ready for TechShow, it seems appropriate to start this blog on the topic of the economic factors driving change.

Paul Lippe of the Legal OnRamp in "Embracing the New Normal" highlights the power of the current economic forces. Paul reports:

"• The general counsel of a major company explained that he had shifted his legal spending from 50 percent internal and 50 percent external to 70-30, thus reducing outside spending by 40 percent.

• The General Counsel Roundtable presented data showing that outside legal spending by the S&P 500 was dropping from $16.7B in 2007 to an estimated $13.8BB in 2010, a 17 percent decline."

These numbers are astounding. When working for larger companies, I began to get a sense of the degree of change needed to meet changing circumstances. Where for example, the corporation was challenged to reduce expenses by less than 10%, it could typically meet its goal by active expense control. When the business was challenged to reduce expenses by 10 to 15%, then expense control was not enough, and it would be forced to lay people off. In this circumstance, staff reductions would likely come from lower paid categories. However, when the goal ranged from 15-20%, then staff reductions would have to include senior staff. Each level of cost control has escalating impacts on the ability of the organization to meet its client's needs. But, where the expense goals rose to 20% or more, trimming expenses probably would not suffice. The business model would need to change.

Those of us involved in legal technology for many years have long debated what will it take for lawyers to fully embrace technology—not just generic technology for communication and word processing—but technology that automates the practice of law? If Paul's numbers are correct and this approach is widely adopted by US businesses, then change is not nigh: its here. And the change is not just incremental: it's a sea change.

The impacts and appropriate responses can be illustrated by a sliding bar chart—an idea I've adapted from Jeff Rovner. In this example, I pose the example of a law firm engaged to draft and negotiate an outsourcing agreement in each of the last three years.

In 2008, the firm bills 71.5 hours at a blended rate of $350 per hour. The total bill is $25,000. The firm, like many successful law firms in the pre-recessionary period enjoyed a profit margin of 40% and so we can calculate the cost of services was $15,000 and the firm's profit was $10,000.

In 2009, due to soft demand for legal services, the firm agreed to a discount of 20%. Nothing changed at the firm; the work was still performed in the traditional manner and it still took 71.5 hours. The cost of services therefore remained $15,000 and the discount "comes off the top" reducing profit by 50% to $5,000.

As the economy slowly comes out of recession, many hope to return to the good 'ole days. But this appears unlikely. Why would clients pay $25,000 this year for the same service for which they paid $20,000 last year?

The bottom line is that it is now easy to see how law firms can quickly bankrupt themselves through discounting because profit margins are quickly eroding. For this reason, law firms are seeing the importance and value of Alternative Fee Arrangements (AFA's).

In 2010 and beyond, firms may agree to a fixed price of $20,000 and adjust the internal cost lever "to the left." While it may take some investment, if firm's can reduce their costs by 20% and take 57 hours to draft and negotiate the agreement, their profit margin would be restored to 40%.

The chart shows there are two key determinates of profit: market price and internal costs. This is, of course, no different from any other business.

The market price is primarily set by macroeconomic trends and firm brand. Firm's have little control over macro trends. They can control their brand. It can take years to establish or improve brand quality. But, as Toyota has shown, a business can quickly tarnish its image.

Internal costs are entirely in the control of the firm. However, I get the sense from law firm leaders that they do not see the cost slider as being so fluid. For most lawyers, shifting the cost slider left is fraught with danger and uncertainty. This is where the legal technologists and knowledge management experts can help.

The better approach is maintain (or improve quality) while reducing costs. And, this will be the topic of the next post.