The CrossCheck Top Ten
Contract Drafting Errors Found on EDGAR
Welcome to The CrossCheck Top Ten. The following is a list of the top ten drafting mistakes in public company contracts, as filed on EDGAR. To come up with this list, we used the technology behind CrossCheck to analyze thousands of contracts of various types, from relatively brief employment and non-competition agreements to 250-page merger agreements.
CrossCheck’s focus is entirely on structural issues: document outlines, cross-references, and defined terms. These elements make up the framework of virtually every contract that isn’t written on the back of a napkin. And it’s amazing how easy it is to mess them up.
In this post we’re just going to summarize the top ten. Some of the items in this list are among the most common; some are included because they are more significant. In future posts we will dive into each one, with examples taken from documents on EDGAR, and discuss in more depth why these mistakes matter and how they can be avoided.
- The “as defined in” error. One of the most common mistakes we see is a mention of a defined term “as defined in” followed by a cross-reference to a section that (a) doesn’t exist, (b) doesn’t contain the definition mentioned (although the term is defined in a different section), or (c) doesn’t contain the definition and the term isn’t defined anywhere in the document. This error was found in 31.6% of documents analyzed.
- The “this section” error. This is a self-reference such as “pursuant to this Section 3.4” which appears in a section other than 3.4. Did the author intend to refer to “this” section (3.5) or another section (presumably 3.4)? A variation on this theme is a reference to “Section 3.4 above” when Section 3.4 is actually “below”, or vice versa. This error was found in 14% of documents analyzed.
- Duplicate Definitions (terms defined more than once). Here, a term is defined in more than one place in the contract. Sometimes this is intentional. The same term might be defined differently in different contexts and for different purposes; however, in almost every case where an index of defined terms is included, the index only mentions one of the definitions. In other cases, a term is simply redefined, often with subtle wording differences and no contextual significance. If the definitions differ in a material way, that can be a major problem. This error was found in 69.8% of documents analyzed.
- Terms defined but never used. There’s no need to define a term that is never mentioned again, but it happens all the time. Does this make the contract less valid or more difficult to understand? Probably not. But it’s evidence of copy-and-paste drafting or too much reliance on forms. In the most egregious cases an unused term copy-and-pasted from another document might disclose confidential information about an entirely different transaction. This error was found in 86% of documents analyzed.
- Cross-references to non-existent sections. This error comes in different flavors, but the most common is simply a reference such as “subject to Section 9.12” when there is no Section 9.12 in the contract. This error was found in 95% of documents analyzed.
- Ambiguous cross-references. In this case, a reference is ambiguous because two or more clauses have the same label. For example, if Section 3.8(a) contains two separate sequences labeled (i), (ii) and (iii), and reference is made to “3.8(a)(i)”, which “(i)” was meant? It’s very common to see an outline style (such as small roman numerals, aka “romanettes”) used in more than one enumeration or sequence of subclauses in the same paragraph, but this leads to ambiguity. This error was found in 95% of documents analyzed.
- Missing, repeated, or out-of-order sections. This is, for example, when a contract has two sections labeled “3.2”, or 3.2 is followed by 3.4, or 3.5 comes before 3.4. In some cases it just looks sloppy; in other cases it makes cross-references invalid or ambiguous. Such errors often cause conflicts with the Table of Contents as well. 83% of documents analyzed contain some sort of outline error.
- Cross-references followed by the wrong caption. Many authors follow the practice of combining a numerical cross-reference with the caption of the section referred to. E.g., “Section 8.4 (Governing Law)”. If the actual caption of Section 8.4 is “Notices”, and Governing Law is Section 8.5, this raises the question of which section was intended. In other cases the caption is similar but rephrased, which looks odd, and in other cases there is no caption on the section or paragraph referred to, but the author inserts an imaginary caption (with capital letters) to summarize the topic of the reference. We call that the “air quotes” caption. This error was found in 13.9% of documents analyzed.
- Undefined terms. This happens when a term is capitalized as though it’s defined but no definition is found in the contract. Often, this occurs when a term is misspelled or varies in some way from the intended term, such as “Incumbent Investor Director” instead of “Incoming Investor Director”. These mistakes can be very difficult to identify accurately, but when they occur they can be critical. This error was found in 96% of documents analyzed.
- The wrong dollar amount. It’s common practice to state dollar amounts both in numerals and in words, such as “$1,000,000 (one million dollars)”. But if the words don’t match the numbers, that can be a serious problem. Here’s an example from an actual contract found on EDGAR: “$4,500,000 (four million five thousand dollars)”. Because of the general rule that “words prevail over numbers,” this could be a $495,000 mistake. This error was found in less than 1% of documents analyzed, but it’s so significant we included it in the Top Ten.