Know Your Own Worst-Case Scenario
Understand What Happens if You Don't Deliver
Thank you for joining me for week two of my newsletter. I'm genuinely excited to see familiar faces returning and new subscribers joining our community of business owners and advisors who want to make smarter, stronger deals. I’m honored that so many folks subscribed and many more took the time to read it!
Last week, I shared my two fundamental rules for business deals, borrowing from Warren Buffett's timeless wisdom. Just as Buffett says "Never Lose Money" and "Never Forget Rule No. 1," I believe every business owner should know: "I will know what happens if the other side doesn't perform" and "I will know what happens to me if I don't perform."
We covered the first rule last week—understanding what happens when others don't hold up their end of the bargain. Today, we're diving into the second rule, which is even more important: knowing what happens to you if you don't perform.
Why Your Own Non-Performance Matters Most
Here's the uncomfortable truth: you can't control whether the other party performs. You can write the tightest contract in the world, but if they decide to walk away, disappear, or simply run out of money, you're dealing with their failure.
But your own performance? It’s not entirely in your control, but you have a lot more control over it.
Most business owners I meet focus obsessively on what the other side owes them. They'll spend hours negotiating payment terms, delivery schedules, and performance standards for their counterpart.
That’s important stuff. But, you should be equally obsessed about making sure your downside risk is tightly controlled.
The Anatomy of Business Risk
When you sign a contract, you're not just agreeing to do something—you're accepting financial risk. Every commitment you make creates a potential liability if you can't fulfill it. Understanding this risk isn't pessimistic; it's essential business planning.
Let's break down what "knowing what happens if you don't perform" actually means:
Financial exposure: What's the maximum you could owe if things go wrong? This includes damages, attorneys’ fees, and any other costs the contract allows the other party to recover from you.
Timeline consequences: What happens if you're late? Is there a grace period, or do penalties kick in immediately? Are there escalating penalties that could spiral out of control?
Operational impact: If you breach this contract, how does it affect your other business relationships? Could one failure create a domino effect that damages multiple client relationships?
Reputational damage: In our connected world, business failures rarely stay private. What would a breach of this contract do to your professional reputation?
The Worst-Case Scenario Exercise
Here's a practical exercise I recommend for every significant contract: write out your absolute worst-case scenario. Not the likely scenario, not the "everything goes reasonably wrong" scenario—the genuine disaster scenario.
Start with this question: "If I fail to deliver what I said I would deliver, when I said I would deliver it, what would it cost me?"
For example, let's say you're a marketing consultant agreeing to launch a client's new product campaign. Your worst-case scenario might look like this:
You miss the launch deadline by three weeks due to illness and subcontractor issues
The client claims your delay cost them $100,000 in lost sales
They refuse to pay your $25,000 fee
They demand you cover their $15,000 in additional advertising costs
They hire another agency and bill you for the $30,000 replacement cost
The dispute ends up in litigation, costing you $50,000 in legal fees
The client posts negative reviews that cost you two other clients worth $40,000 annually
Total potential loss: $260,000 plus ongoing reputational damage.
Now ask yourself: "Am I willing and able to absorb this loss?"
If the answer is no, you shouldn't sign the contract as written. If the answer is yes, you can proceed with confidence, knowing you've stress-tested your decision against reality.
Protecting Yourself Without Killing the Deal
Understanding your worst-case scenario doesn't mean you have to accept unlimited risk. Once you know what you're potentially facing, you can negotiate protections:
Limitation of liability clauses: Cap your maximum exposure at an amount you can handle. A common approach is limiting liability to the value of the contract or a specific dollar amount.
Carve-outs for gross negligence: You might agree that for some items you are only liable for gross negligence or willful misconduct.
Force majeure protections: Ensure you're not liable for delays or failures caused by Acts of God or other circumstances beyond your control.
Cure periods: Build in time to fix problems before they become breaches.
Insurance: Can you insure over the risk ?
Asset Protection: Have you protected your assets to make sure creditors can’t get to them?
Relationships: Is your counterparty the kind of partner that will work with you if problems arise? Also, if you need a supplier to deliver something mission critical, make sure there are consequences if they don’t deliver.
The key is putting these protections in place before you sign, not after problems arise.
Real-World Application
I was helping a client negotiate what happens in case his space suffered casualty damage during a lease. If there was a fire or tornado, the client would be required to continue to pay rent for the space and be required to move back in and open after the damage was fixed. Worst case, the space could have been down a year or more. I asked, “Do you have insurance that will pay that rent?” and “Can you afford to have to move twice or be out of the market for a year?” The answers were no. So, we made sure he had good business interruption insurance and that he could terminate the lease if the space couldn’t be restored in 6 months.
Your Action Items for This Week
Review your current contracts: For any active agreements, write out your worst-case scenario if you fail to perform. Are you comfortable with that risk?
Update your contract templates: If you use standard agreements, make sure they include reasonable limitations on your liability.
Stress-test your next deal: Before signing your next contract, complete the worst-case scenario exercise. If you're not comfortable with the result, negotiate or think through what you can do to mitigate the risk.
Remember: a good deal isn't just one that makes you money when things go right—it's also one that won't destroy you when things go wrong.
Don’t Go Too Crazy
It’s ok to evaluate whether you can accept the risk by evaluating the probability of the risk. It’s more palatable to take on a risk if the risk is very remote. We all understand that we could die in a car accident every time we get in the car, after all. We do it anyway. But, I mitigate the risk. I wear a seatbelt, my car has airbags and other safety features and I have insurance in place. Just make sure you understand if the risk is really as remote as you think it is. You have to hit the happy middle ground between preparing for real risk and being a doomsday prepper. Focus on foreseeable risks.
Looking Ahead
Next week, I’ll talk about how to protect yourself when you start a new business relationship—whether it’s with a new partner, new customer, new vendor, or something else entirely.
Until then, know your risks, plan for the worst, and make deals that strengthen your business rather than threaten it.
What's your worst-case scenario story? Have you ever been caught off-guard by contract terms you didn't fully understand? Hit reply and share your experience—I read every response.