All business starts with an agreement. It can be as simple as the status quo business transaction that occurs when a consumer buys a product at its closest retail store. It can also be as in-depth to where two parties must come together to work out the details of their partnership in written format, such as in the case of a company merger. Regardless of the type, contract negotiations are the result of actions that stem from a business having to meet government mandates; economic impact; or financial gain and improved market share. And as increasing numbers of businesses rely on contract renewal as a large chunk of their revenue stream, they must understand and implement the necessary capabilities to garner the insights of those contracts for maximum results.
“A lot more industries right now are gravitating towards contracted revenue—so the subscription model is resonating very well,” said Kamal Ahluwalia, Chief Strategy Officer for Selectica, based in San Mateo, Calif. “This was happening anyways but now they realize that across most companies, 70 percent of your revenue comes from existing customers. Barely 20 to 30 percent comes from new customers. So companies need to look to contract management as the centerpiece of their revenues and profitability and not as a paper artifact of the transaction. Because what’s in there is the high likelihood of closing again and higher margin issue if you keep renewing the customers.”
Most relevant right now are perhaps the number of recent contract strikes that garnered added attention because of labor wage negotiations.
In September, unresolved disputes between the UFO union and Deutsche Lufthansa AG resulted in a cabin crew walkout. Despite the most recent resolution between the two earlier this week—the union agreed to more flexible working hours as Lufthansa cabin crew members each receive a 3.95 percent pay increase and a one-time payment of 320 euros—the strikes cost the airline the equivalent of €33 million in lost operating profit, according to a Wall Street Journal report.
In Chicago, a dispute over school reforms caused public school teachers to walkout in September—“the first strike by unionized educators” in the city in 25 years, according to a Chicago Tribune report. As a result of the Chicago Board of Education’s recent approval of the new three-year Chicago Teachers Union (CTU) contract with Chicago Public Schools (CPS), teachers will receive an average annual salary increase of 4.4 percent over four years.
On the East coast, potential port strikes—which would have the biggest implications on retail supply chains as they continue to prepare for the holiday season—were put to rest as the United States Maritime Alliance (USMX) and the International Longshoremen’s Association (ILA) extended their contract negotiations past the original September 30th deadline through December 29, 2012, according to the Federal Mediation and Conciliation Service (FMCS). To date, no agreement has been reached as the two parties continue to negotiate over a master contract to meet the needs of port workers who “are asking for fairer wages and job security as automated operations threaten their jobs,” according to a FOXBusiness report.
“Increasingly, what is happening in Chicago and the ports and with our customers also, is they recognize that contracts are not put in place in case everything is going well,” explained Ahluwalia. “In a lot of cases nobody looks at the contract. Contracts are enforced to make sure there are guard rails in place and expectations are very clearly set on both sides. Yes, it’s fine to create the contract for the first time but customers also want to know how to actually track performance against the contract. And those things are starting to transpire a lot more.”
From defining clauses in a contract to its repository to the automatic payment invoice reconciliation, there are a number of different aspects to contract management that each company must define as it pertains to its business.
Digitization continues to impact global companies and their national mandates. And some businesses who see the need for electronic documentation adoption feel its push from their own suppliers and key partners as well.
“Where we are seeing the most change and perhaps the most adoption is in that repository area,” said Greg Dickinson, Chief Executive Officer, Hiperos, Somerville, N.J. “No longer are contracts the static, multi-form carbon document that is in some filing drawer and only gets pulled out once every two to four years for renegotiation. Now, they are actually living, breathing documents that are used as a framework for the underpinnings of the relationship with a third party. As a result of that, the contract needs actionable content—it needs to be able to have not just text but field elements that can be used for the business to actually manage the relationship.”
In managing relationships going forward, some questions companies may need to identify include ‘What are the locations of the given product or services? Where will they be delivered from or to? What aspects of compliance and risk must be factored in?’
“Some companies are starting to put contracts in place specifically around items that are key or critical components to their suppliers around the aspect of ‘What is the product that they need? What are the time frames that they need it in? At what quality level does the product have to be?’” explained Mickey North Rizza, Vice President of Strategic Services, BravoSolution, Chicago and former Gartner analyst. “So they’re looking at all the specifications and any types of issues that may come up. But above that, just to make sure they get the product, they might say ‘We expect demand and consumption to be A, B and C and we will monitor that in a separate demand pattern.’ So the way they send their demand information—it may be in the format of a rolling forecast with call-offs over a period of time or a separate contract that rolls into the main. It’s really looking at the demand and the consumption of the products that you’re trying to bring in.”
Companies in the financial services space, at the government level or in industries like healthcare—where meeting compliance and regulation mandates are not negotiable—may partner up with platform solution providers like Hiperos to manage their contracted partner relationships going forward. And as they continue to do so, a number of them may take abstracts from traditional contract management systems—“typically tied to the ERPs or to the spend management” according to Dickinson—and extract through current contract management platform models the attributes necessary to manage a particular relationship going forward.
“It’s almost mandatory that you execute relationship management or third-party management—especially in the financial services space,” continued Dickinson. “So the regulators—whether that be the FDIC or the CFPB or the Office of Comptroller Currency—they are actually gearing their audits to have financial services look at their use of contract management in ensuring that the necessary protection for a consumer or for a relationship are online and can be tied to the necessary controls that an auditor would look for.”
In fact, some non-regulated businesses also see the need for third-party compliance management to better manage the risk in doing business with that third party.
But where companies face issues—especially if a contract is static or not managed correctly—is not in the immediate timeframe but six to 12 months later when they find that the third party has been negligent in some areas outlined in the contract.
For example, in the healthcare industry, health insurance providers who are not government mandated may inquire to their suppliers if they offer health insurance to their employees. “And that’s written in the contract whether you do or don’t,” Dickinson explained. “And they have to keep that up to date for their business. It’s important to them that there are always things in the values of companies that are reflected in that contract—and they want to be able to measure that on an ongoing basis. Without some enforced electronic format, that becomes almost impossible.”
Public versus private
Another important factor for businesses to understand—whether gaining new contracts or managing the renewal of existing contracts—is the amount of resources available to them.
“Something that small businesses don’t do that large corporations do, is they leverage their congressional leaders,” said Lourdes Martin-Rosa, Advisor on Government Contracting for American Express OPEN. “When a bill or a requirement is passed, it needs to be approved by Congress. So Congress will always know ahead of time what opportunities are coming up within their congressional areas. Small businesses need to go and speak to their congressional leaders and tell them ‘I am here in your district, I am growing my business, these are my capabilities, I am seeking government contracts. What can you tell me?’”
In fact, the government spent $500 billion on private contracts in 2010—about 23 percent which were awarded to small companies. Online tools such as Data.gov and FBO.gov encourage access to data and business opportunities at the federal level. In addition, organizations such as American Express OPEN help businesses identify whether government contracting is the right model for their business. At its “Grow Your Business through Government Contracting" event in Dallas last month, the company recognized three small business owners—Lebolo Construction Management, The Hester Group and Managed Care Advisors Inc.—for their achievements in government contracting with the second annual Victory in Procurement (VIP) Awards.
But the impact that a company’s business development has on the economy perhaps plays a larger role in the amount of contracts a company gains.
“Federal government and other government agencies realizee that small businesses are really the engines driving increasing economic development within their area,” said Martin-Rosa. “There has been a greater increase in contract awards to small businesses and they will have to employ more people locally versus the larger corporations that may employ people outside of the U.S. In looking at the 2013 procurement forecast of the federal government, almost everything that is under $10 million dollars is being awarded to small businesses—and that’s fantastic. So there are a lot of opportunities going on out there for small businesses—and they can’t be scared. They’ve got to jump in, they have to pick up the phone and introduce themselves. If you’re not out there marketing your business and networking and talking about how good your company is—no one is going to listen.”
While issues affecting the types of contracts differ—public contracts have a more targeted focus on transparency issues while the majority of private contracts rely on relationship building—the bottom line for a business comes down to the protection of its company.
“At the end of the day, it’s about mitigating risk,” said North Rizza. “With the old contracting methods, it was just mitigating your own risk. Today, if your supplier is part of the supply chain and he’s going to help you deliver those goods, you need to mitigate risk throughout the supply chain. So it’s at what level and where do you want that risk. Do you want all the risk on the suppliers’ shoulders? Or is the risk on both of your shoulders?”
While automation may seem like the best solution in effective contract management, businesses need to deploy an all-encompassing way that will target effective management of their partnerships moving forward.
This can include a combination of manual processes—such as digitized electronic documentation; software utilization that provides alert mechanisms when a contract needs to be renewed or reevaluated; and risk management strategies—to identify potential liabilities throughout your supply chain, initiate accurate clauses and sub-clauses related to third-party agreements and ensure products or services are provided as necessary as a result of the contracted agreement.
“Looking at contract management software from a compliance aspect, setting up alert mechanisms will let you know when a contract is expired or about to expire and when you need to start thinking about the conversation with the supplier,” said North Rizza. “But some companies don’t think about the exposure of the suppliers’ supplier and what contracts he has in place. And in some cases your products may not have sold the way you wanted them to because of the economy. Technology can help you. But you really need to have a strategy of the way you are going to work with your supply base and the way it’s going to feed your supply chain to get that product out the door so you can than take that strategy and apply it to your contract. And then use your contract management technology and analytics to tell you what is really going on so you know if you’ve got gaps, risk and exposure.”