Difference between Assignment & Novation of Contract

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If you have entered into a contract with a client and wish to transfer your interests to a third party, of contract you may be wondering about the difference between assignment and novation. Both methods involve the transfer of an interest in a contract to a third party, although it is important to understand how each approach differs to be sure you have chosen the correct one.

Contractual obligations of a contract

The purpose of a contract between a buyer and supplier is to ensure that both parties receive what they want. Each party is legally bound to uphold their end of the agreement, whether it relates to the provision of a product or services, or the agreed payment for those goods or services.

Because the very nature of a contract is to bind each party to account, it can be complicated for either party extricate itself from that contract.

What is Assignment?

Assignment transfers to a third party your rights to the benefits of the contract, without transferring the obligations of the contract. So assigning your interests to another party could mean that payment is to be made directly to that third party, instead of to you, but you would remain legally-bound to fulfil your end of the contract to the original co-party. You also cannot assign the obligation of payment to a third party if you are the buyer in a contract.

For example, if you are contracted to build a wall for a client, you may ask the client to directly pay a company that you owe money to, thereby assigning your interest to that company. However, you cannot assign the burden under the contract. So in this scenario you would still be responsible for building the wall – and would be liable if there was a fault with the finished product – even though the third party would receive the benefits of your end of the contract – i.e. the payment.

What is Novation?

Novation, on the other hand, is an agreement made with your co-party whereby you reassign your entire interest in a contract over to a third-party. This would mean that any subsequent services or payment required would pass directly between the other two parties, without you being in any way connected. It effectively allows one or more original parties to ‘drop out’ of the contract, and for replacement parties to be substituted in.

So, to use the example above, if you were contracted to build a wall for a client, but were unable to complete the job, you could agree with the client to novate the contract to a different contractor. That new contractor would from then on assume all your responsibilities for ensuring the job is completed, and would be held liable for any problems. They would also receive the full payment, whilst you would walk away with no further ties to the original contract.  

The difference between Assignment & Novation of Contract

In the case of assignment, the agreement of the co-party is not necessarily required. Most contracts include an assignment clause as standard, allowing transfer of rights to receive payment to a third party, without the buyer’s express consent. This is because service that the buyer receives has not changed: the original supplier is still obliged to fulfil their end of the contract as agreed at the outset. It is only the supplier whose interests in the contract will change – through opting to transfer payment on to someone else. So they are allowed to make this decision independently.

In contrast, novation must be agreed by all parties. The original co-party must be happy to receive the agreed service or product from a new party, the transferor must be happy to pass on all their interests in the contract, and the transferee must be happy to take on the burden of the contract, as well as the benefits.

Whilst the transferor and transferee may be happy with the arrangement, novation can be complicated by the original co-party. This party is likely to need assurances that there will be no change to what they are receiving and may need convincing that it is in their best interest to transfer the contract. Otherwise there is the risk they will use the situation to their advantage to secure a better deal in the new contract. In addition, the original party may still be required by the other parties to retain some liability under the original contract.

Novation of contracts during the sale of a company

During the sale of a business (an asset or business sale) novation would be used to transfer all the existing contracts of the business over to the buyer. The buyer would then be responsible for fulfilling those contracts going forward, and the clients would be bound to pay the new business owner.

Since the sale of a business involves numerous contracts and clients, there is a risk that not all customers will agree to the novation. Whist there are various means to try to resolve this, it is a risk that the buyer must take on, since existing clients are not legally bound to novate their contracts to the new owner. This should be carefully managed during negotiations for the sale of the business.  

Summary: choosing the right course of action

Assignment transfers only the rights to payment to the third party, whilst the original party remains responsible for meeting the terms of the contract. In the case of novation, a third party essentially replaces the original party in the contract, assuming both their benefits and obligations.

Whichever route you are considering, it is important to seek expert legal advice to ensure you are choosing the right course of action in your circumstances.

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What is a business introducer? – Overview of Sales Commission Agreements

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When you are running a business, the importance of generating new leads and expanding your client list cannot be overstated. Knowing where your next sales are coming from is vital to the growth of your business, which is why business introducers are so popular. Initiating a business introducer arrangement is convenient for both introducer and supplier. The supplier grows their network of contacts and gains qualified leads whilst the introducer benefits financially from their recommendations.

What is a business introducer?

A business introducer is the term given to a person or company who refers new clients to a business in exchange for a fee. Introducers are often partner firms that a supplier works with regularly, such as accountancy firms, law firms, or others. They help the supplier to grow their list of contacts and provide the potential for increasing sales.

The business introducer is not employed by the business – nor are they an agent, since they do not directly sell their products for them and are unable to agree contracts on their behalf. Instead they make the initial introduction and pass the client on to the supplier in order for them to develop the client relationship and make the sale.

Key advantages of a business introducer arrangement

The relationship between a supplier and an introducer is mutually beneficial.

For the supplier the advantages are:

  • They grow their network of contacts with ongoing potential.
  • The introducer is only paid for the introduction if it turns into a sale. So it is a no win, no fee arrangement.
  • As the commission is often a percentage of the sale, the supplier has a clear understanding at the outset of what their profit margin will be.

For the introducer the advantages are:

  • An additional revenue source from making introductions.
  • Commission is linked to the size of the contract that is sold, so it could potentially be a very good (passive) income.
  • By referring their own clients to partnering organisations, they have the additional benefit of being able to find a solution for their clients.

For both parties there is the opportunity to build strong, supportive partnerships with other firms which can involve mutual work referrals.

What is a Sales Commission Agreement?

As with any business arrangement, it is essential that terms are agreed upon in advance. A Sales Commission Agreement is a legal document that protects the interests of both parties. The Commission Agreement will set out in advance what commission the business agrees to pay the introducer for any successful new leads, and on what terms.

As the middleman, it is important for introducers to ensure they are properly remunerated for their help. Referring new business is an important role, but it can often get overlooked or taken for granted once the introduction has been made. For example, if an introduction was made prior to the Commission Agreement being terminated, the introducer should still receive commission if that lead later generates an income for the supplier. From the supplier’s perspective, the commission agreement ensures they only pay for introductions that have successfully generated income.

A Commission Agreement is designed for suppliers who are generally looking to expand their client base, with no particular target in mind. Alternatively, when the supplier is using an introducer to target a specific potential customer, an Introducer Agreement is more appropriate.

Terms of the Sales Commission Agreement

In addition to the introducer commission rates, a Sales Commission Agreement will set out terms for confidentiality, competition, anti–bribery and non-circumvention. By ensuring that both parties fully understand the terms of their relationship, future conflict or legal claims can be avoided. For example, setting out specific conditions in which the introducer is allowed to market the supplier will avoid the introducer competing with the supplier’s own marketing or sales team.

The specifics of the agreement are down to the introducer and the supplier to negotiate between themselves. In most circumstances commission is only paid once a contract has been signed between the new client and the supplier. The fee will generally be calculated based on the new income that the introduction will bring to the supplier. This could involve an Introduction Period, where the introducer gets a percentage of the income made within the first few weeks or months of the new client’s contract with the supplier. A Commission Agreement is not generally used for situations where a fixed referral fee is agreed upon for each introduction. In this situation a Referral Fee Agreement would be used instead.

Drawing up a sales commission agreement for a business introducer

Good business relationships are based on a “win-win” situation for everyone involved. And a successful business introducer arrangement is exactly that. The supplier gets a new client, the introducer receives commission, and the new client gets the service they were looking for. Drawing up a Sales Commission Agreement will guarantee that everyone receives what they want from the relationship, without any individual being able to take advantage of the other. With clear guidelines from the outset, a business introducer arrangement can lead to a successful, long-standing partnership.