What are we seeing in the market?
Organizations have started realizing the value of establishing an effective contract management framework. The board of directors and CXOs recognize the direct impact of effective contract management on improving the bottom line and building strong relationships with customers and vendors.
As a result, some organizations have taken the courageous step of transforming the end-to-end contract lifecycle management across businesses, whereas some have chosen to take a phased approach of first establishing effective controls around critical contracts (customer side or vendor side contracts) and then rolling them out to the rest of the enterprise. However, the pace at which these initiatives are being taken is quite slow.
For years, CXOs have been noticing several critical issues associated with contract management that are identified during the contractual service delivery, internal audits and contract reviews (internal or external). However, no concrete steps have been taken to address these gaps. Contributors of these issue are as basic as:
- Non availability of valid (active, signed and executed by both parties) contract agreements
- No centralized repository to store and retrieve contract documents
- Contract changes not formally agreed and signed on
- Performance metrics not agreed or tracked and applicable penalties not adjusted
- Weak issue and dispute management — no periodic governance meetings conducted at various levels in the organization
The management puts in considerable efforts in drafting contracts with third parties but not enough in managing those contracts and relationships. Organizations today are struggling with managing contractual risks across the enterprise because the traditional approach of managing risks in silos across different teams, processes and methods is not able to keep up with the changing environment and increasing complexity.
What are the possible reasons or challenges preventing organizations from achieving the desired success in contract management?
As noted in the earlier blog ‘Enhancing your existing contract management framework‘, the changing trends around business models (outsourcing of core and non-core services), contract complexity and volume, and regulatory oversight are continuously putting pressure on organizations to establish a robust governance framework around contracts. Many organization are not able to move in the right direction. Organizations’ failures or limited success in implementing an effective contract management program can likely be attributed to the following reasons:
- Reactive approach and fragmented processes: Contract management has been historically seen as a part of operational processes and not recognized as a centralized process at an organizational level. Therefore, contract risks have been managed in silos across different teams, processes and tools. As a result, individual teams adopt a reactive approach to address the critical issues or gaps in contract management and no initiatives are taken at an organizational level to transform the end-to-end contract management process.
Leading organizations view contract management as a strategic initiative and have integrated it with their overall risk management. The CXOs/board of these organizations have included contract risk management in the agenda for their strategic meetings to understand its current state and progress toward the future state.
- Not employing the right talent and skillsets: Organizations typically do not employ resources with specialized skills for contract lifecycle management. The structure of the contract governance team and its role and responsibilities are not clearly understood and/or defined. In addition, team members available from other functions (procurement, sourcing, sales or legal) are assigned these responsibilities, resulting in more operational costs to manage contracts and ineffective contract governance.
Leading organizations demand talent with deep industry expertise, business knowledge, as well as skills relevant to major contract categories. These organizations recognize the upside potential of strategic contracts and the need of effective governance on these contracts. A skilled and experienced contract governance team improves productivity, enhances performance, maximizes the business case, mitigates risks and reduces the overall spend/costs on a third party. A centralized team also allows people from other functions to shift their focus from contract management activities to other functionally important and key aspects.
However, we recognize that organizations are facing a shortage of people with these skills set. To supplement this shortage and be cost effective, organizations are seeking help from leading governance services providers on a short, mid or long-term basis.
- Assumption that the vendor or service provider will manage everything: In case of large contracts or outsourcing deals, organizations typically assume that the service provider has the required governance processes in place for delivering contractual commitments, raising and resolving issues and disputes, and monitoring and reporting performance metrics levels in a timely manner and adjusting invoices accordingly. Organizations also assume that the vendor will produce the desired results or value through continuous improvement, innovation and transformational projects. As a result, they put in no or very limited level of governance efforts, resulting in financial and value leakages across the life of contracts.Organizations invest significant time and efforts drafting watertight contracts to manage risks and drive value from the contractual relationships with their vendors, while on the other hand they pay limited attention to the post-award governance of such contracts.
Leading organizations have put in place a centralized team and third-party oversight program to govern large or outsourcing contracts. The key components of such a governance program are performance management, financial management, contract management and relationship management. The centralized team is responsible for ensuring that appropriate oversight and reporting practices are implemented and carried out adequately for vendors.
- Not considering automated solutions as a key component of the program: Most of the contract management or governance activities are routine in nature and can be automated using technology solutions available in the market. However, organizations typically do not plan or budget for a separate technology solution and instead choose to rely on their existing ERP or procurement- or sales-related software to automate the contract management processes. This is one of the key contributors to the failure of contract management transformation projects because the existing ERP/procurement applications may not be capable, effective or scalable in creating and managing contracts. Contract lifecycle management involves various sub-processes (such as template creation and management, contract drafting, negotiation, collaboration, amendment, renewal, performance monitoring, relationship management, risk assessment, fulfilling contractual commitments and reporting), which are typically not covered by ERP/procurement/sales technology solutions.Organizations can also make the mistake of opting for off-the-shelf/standard vanilla technology solutions provided by the technology vendor. Most vendor solutions are generic and does not provide industry-specific/specialized features and capabilities. Therefore, organizations should thoughtfully design the technology roadmap and functional requirements. Technology solutions should be customized and configured to organizations’ needs during the implementation phase.
This is the right time for organizations to learn about opportunities to transform their contract management program into one that can:
- Create improved visibility into contracts and its obligations/commitments
- Administer consistent contract creation and governance practices across organization
- Provide consistent and real-time reporting on contractual risks and compliances
- Eliminate redundant and fragmented monitoring activities
- Reduce manual processes, increase efficiencies through automation and end-to-end process centralization
- Integrate with organizations’ risk and control frameworks
Udit Aggarwal, Partner, Risk Advisory Services has also contributed to this article.