Danger of "Exclusive", "Premiere" or "Preferred" Status in Contracts, or Contractual Minimum Commitments

Occasionally in commercial transactions, you may be asked to give “exclusivity” (or even "preferred" status) to the other party, in either direction (e.g., vendor contracts may include language requiring customers to exclusively use certain vendor products or services, or a customer may ask a vendor not to offer identical or similar services to any of the customer’s competitors).

Even when such requests seem low risk at first glance because they do not present a problem for your business at the moment, facts and circumstances can change rapidly, which is why it is often best to avoid them.

The same goes for vague references to preferential treatment, such as "Preferred" or "Premiere" vendor status, and the like. Even contractual minimums can amount to a "de facto exclusivity", as you will be locked in to paying for one vendor's services until you achieve the minimum commitments.

Identifying Exclusivity in Contracts Aside from contract provisions explicitly using the term “exclusive,” there are several other provisions typically found in commercial contracts which function almost like an exclusivity clause – what I call “exclusivity in disguise.” Some examples include:

1. “Preferred” or “preferential treatment” or “premiere status” As a practical matter, vague terms like these create a slippery slope toward potential exclusivity – after all, what does it mean to be a “preferred vendor?” Will the vendor pursue breach of contract remedies if, for example, the customer enters an agreement with another company in the same industry? Rights of first refusal and rights of first offer also fall into this category.
2. Contractual minimum commitments Even contractual minimums can become de facto exclusivity clauses. For instance, if a vendor seeks a contractually guaranteed minimum dollar volume from its customer (and perhaps offers a better price to customers making this guarantee), what happens if the customer’s need changes after the contract is signed?

Companies should consider giving these contract provisions the same level of scrutiny as other types of exclusivity provisions, especially if the consequences for breaching the contract are significant.

Pitfalls of Exclusivity The risks or “pitfalls” of exclusive (and these semi-exclusive or de facto exclusive) arrangements are numerous, and in many cases, are not always obvious at the outset of a new commercial relationship. Below are just a handful of things that could change within your company, potentially making a seemingly harmless exclusivity or minimum purchase obligation suddenly problematic. What if:

• your company spins-off a division that was responsible for purchasing half of the guaranteed minimum volume to which you agreed
• a competitor launches a new, cheaper and/or improved “widget” that better meets the needs of your company
• your company’s needs and/or specifications change, causing the vendor’s product to become obsolete
• your company is ready and able to meet the contract minimum, but the vendor experiences supply-chain issues and cannot deliver
• the quality of the vendor’s product declines over time, but not significantly enough to cause a breach of contract
• your company develops (or acquires via merger) the internal capability to produce the needed “widget”
• a legacy arrangement you have with a different vendor (which did not pose any issues when you agreed to the exclusivity) suddenly triggers the exclusivity clause when the legacy vendor decides to expand its product line, becoming a competitor of the exclusive vendor
• if you work in a large enough organization, you may not be aware of preexisting deals done by other affiliates, brands, locations or departments that already violate the exclusivity. This could tie the hands of other decision makers within the organization if you agree to exclusivity in your deal, especially if they require a different vendor in the future.

It can be difficult – nearly impossible – to predict what opportunities lie ahead for a business. Since most companies value the ability to be flexible, creative and agile out in the marketplace, it is important that they consider the implications of entering commercial contracts that contain exclusivity clauses or other provisions that create the same kind of limitations. If you would like assistance with a commercial contract or have questions about an exclusivity clause, please reach out to Brian Heller at (202) 365-3940 or bheller@outsidegc.com.

UPDATED 12/3/24:

Here's another great example of a seemingly harmless non-compete becoming a far bigger business problem that it seemed. Credit to Shaun Sethna

www.linkedin.com/posts/shaunsethna_contracttrap-contracts-inhousecounsel-activity-7269719808500232192-IWZC

Brian Heller is a Member of Outside GC’s Washington D.C.-based team, and is an experienced technology and deal attorney, specializing in SaaS licensing, digital and social media, online advertising, mobile apps, cloud services, terms of use, data use and protection, content licensing and other technology deals. Brian has represented both vendors and customers and uses this experience to present reasonable positions on behalf of his clients. Brian can be reached at bheller@outsidegc.com.