In the present economy it's common to partner with another business to meet the demands of your own customers, such as using suppliers or vendors, or contracting out a particular area of the business to reduce cost or improve expertise, such as employing information technology or accounting expertise. But, when the work quality of one of these partners goes south, it's the bottom line of your company that will eventually suffer. According to a recent survey of executives, a majority of businesses that use third parties eventually experience harm from their partners' actions.

Survey on risk of third party partners

The survey of senior business executives examining third party relationships conducted by CFO Research Services found that 75 percent of participants said their business suffered harm from third party partners. The most common types of harm suffered by businesses in the survey were lost customers because of the third party's poor service, financial loss from a third party going out of business, supply chain issues, data security issues and contract violations.

Businesses will likely continue to use third parties to reduce costs, increase capacities and provide service or expertise capabilities going forward, but as businesses rely even more on third parties, the exposure to risks outside of the company's direct control increases. Therefore, companies who work with third parties likely want to outline the relationship through a written contract so that if issues of performance occur, the company is not empty-handed and there is an easy means to seek compensation.

Breach of contract and types of remedies

If a third party's action qualifies as a material breach of contract, your business may wish to consider available legal remedies. In contract law there are a few main remedies for breach including damages, restitution or cancellation.

The remedy of damages refers to a payment made by the breaching party to the non-breaching party. There are different types of damages that may be available to a non-breaching party.

Compensatory damages aim to put the non-breaching party in the position had the breach not occurred. Liquidated damages are an amount of damages specified in the contract in case of breach. Liquidated damages must reflect a reasonable estimate of the actual damages that may result from a breach. Therefore, when working with third parties liquidated damages may act as a more overt incentive in comparison to compensatory damages because the penalty for failure is established and known by both parties at the outset of the contract.

An established penalty looking over the shoulder of a third party may encourage third-party organizations to assist in managing risks. However, a liquidated damages clause has the potential to under estimate the actual damages suffered by the non-breaching party. A business should work closely with its attorney to manage the pros and cons of such a strategy.

A business wronged by a third-party may also explore the remedies of restitution and rescission depending on the circumstances. Restitution is meant to restore the non-breaching party to the position they occupied before the creation of the contract-though this remedy may be impractical for some circumstances-and rescission terminates the contract and puts the parties in the position of never creating the contract.

Contractual agreements can control the relationships with third parties and each contract should be written uniquely for the purpose of each relationship-a form contract will probably not do. That's why it's crucial to work with an experienced business attorney who can parcel out your business's concerns and address them when drafting a contract with your business partners.