Lets talk... Contract management and risk management guide
Why you need to manage this risk
#contractmanagement is often seen by the business as an activity which is aimed not at ‘finding fault’ but is instead designed to identify problems, find solutions and #resolve issues before they become #disputes. However, this approach is only part of #bestpractices contract management.
You will be mindful that contract management not only enables the parties to a #contract to work together to achieve the objectives of the contract, but also deals with #contractcompliance and any shortcomings, contract changes, extensions and renewals. All parties to the contract must fully meet their respective obligations, therefore contract management includes collating evidence of breaches so that any eventual legal process can be substantiated. To cover all these aspects, the contract management structure must be planned from the outset of the procurement process.
This guide concentrates on the activities which need to be undertaken after a contract has been awarded and the service provision has commenced.
The #keyrisks arising from poor or no contract management are:
Top five priorities
The following table identifies five key priorities in contract management. The purpose of the table is to identify the key priority areas applicable to most commercial contracts and why you should consider the impact of these areas on your business.
Each priority is explained in further detail in the main body of this risk management guide, including a series of mini action lists that:
?????????suggest action points for each priority area
?????????encourage you to record your level of compliance against each action point
1. Set up the process for contract management?
Contract ownership
Following the transition of the contract from the tendering/contract award stage to ongoing management, contract ownership must be clear. You should have a budget holder and a senior businessperson in an overall position of ownership providing senior level engagement.
Although your contract manager must have appropriate delegated authority to manage the contract effectively, the contract owner is the senior person interested in the business and operational outputs of the contract and the ultimate decision-maker for changes and variations to the contract, disputes etc.
Appropriate level of contract management
Contract management should be proportionate to the value, risk, and complexity of the contract. A simple contract for the purchase of goods will probably only require an inspection of the goods on delivery to ensure the order has been accurately fulfilled.
Complex or high value contracts are more likely to warrant the appointment of a contract manager. In general, as the level of risk in a contract increases, the benefits of reducing such risks through formal contract management processes increase accordingly. Additionally, consideration can be given to increasing levels of contract management for short periods, to generate additional value from a contract, e.g., by negotiating higher service levels at no extra cost as the contract matures.
Where a contract manager is appointed, that individual must have:
?????????a detailed knowledge of the contract and its service levels
?????????specific contract management skills
?????????knowledge of organisational governance processes and risk structures and
?????????general commercial awareness and expertise
Storage and location of copy/original contract
The original signed contract and all variations, extensions, changes etc must be stored securely to avoid loss or damage. Fireproof cabinets or safes are preferred, with an indexing system to enable the original to be located easily should it be required, e.g., for a dispute, and to ensure it is not mislaid or accidentally destroyed.
The most efficient method of storing original contracts is to create a central contract repository as a definitive, accurate and complete information about a contract, including changes, extensions etc. If there is no single location for storing all the organisation’s contracts, the location of each hard and soft copy must be logged and consistently updated. Where there are multiple copies of a contract around the business, it is very easy for those copies to become out of date and therefore inconsistent as the contract develops.
Recording trigger points
It is common for a contract manager to create a ‘contract file’ containing:
The contract file should be aligned to a diary system to record and set alerts for deadlines and a timetable for making key decisions. A missed date could mean the opportunity to reject an unsatisfactory deliverable, give a default notice or to terminate or renew a contract is lost.
Each organisation has a governance process regarding taking key decisions and the dates and decision-making timescales of such senior people, committees, boards etc must be factored into the timetable.
Set up the process for contract management —mini action list!
2. Contract form and content—regulatory compliance
Your contract manager’s analysis of the contract (see section 1. Set up the process for contract management) should include an assessment of whether the terms and conditions cover all aspects of the service. A key part of this is regulatory and other compliance matters because of the risk to the supplier’s ability to provide the service adequately or at all if, for example licences are lost or lapse. Your business could suffer actual loss or damage in those circumstances, which the supplier’s insurance policies may not cover because failure to obtain or maintain the licences etc necessary to operate its business would probably cause insurance policies to lapse. Additionally, your organisation could suffer adverse press interest and loss of reputation if it is seen to contract with non-compliant suppliers.
The contract may set out a list of all regulatory and compliance requirements but is more likely to contain a general statement that the supplier must comply with all laws and regulations applicable to its business. Therefore, your contract manager needs to obtain a list of applicable regulations and check the supplier’s evidence that it is and remains compliant throughout the term of the contract.
If the service was procured using an invitation to tender or other formal process, those documents may have contained a section requiring the tenderer to state its compliance with (and probably provide proof of compliance with) specific regulations, e.g., licences and permits. The procurement documentation may also have asked for a list of all additional regulatory and compliance requirements relevant to the service because the service provider is most likely to know the specific regulatory and other compliance requirements that are relevant to its business. The procurement documentation should be checked on these points and a list of regulatory and other compliance points should be collated.
If there is no procurement documentation or it is not helpful on these points, your contract manager should conduct research including taking legal advice and consulting the supplier’s trade or industry bodies. When the information has been collated, the formal meeting minutes should be set up with the supplier to discuss and request evidence of compliance with the regulations that have been identified and to request from the supplier a list of all additional relevant compliance matters.
Your contract manager can then set up a compliance calendar or spreadsheet and diarise trigger points indicating when licences etc should be refreshed by the supplier and fresh compliance evidence presented.
Contract form and content—regulatory compliance—mini action list
3. Monitoring and managing performance and obligations
A key area of risk is whether the service is provided in line with the contract. Your contract manager must collect information and measure progress to be able to analyse actual contract achievement. The resources that are devoted to the task of effective contract control and the techniques used will depend on a variety of factors such as:
Simple, non-critical contracts may only need a regular or occasional telephone call with the nominated supplier contact to demonstrate that the contract is proceeding as expected.
Large, complex, or high-risk contracts will probably require extensive reports, regular progress meetings, measurement against key performance indicators specified in the contract, formal testing, and technical reviews. To support this level of contract management, information must be collected that meaningfully describes the progress of the work, so you have a basis for comparing actual and planned achievement and thereby exert control.
In general, there are four key areas of measurement and focus:
Management of key contracts must be structured so that the supplier understands the service it is required to deliver, and your organisation properly understands the service it will receive.
You contract manager should ensure there is a comprehensive, objective, and measurable performance management framework, with written service levels that are linked to business needs. Service levels that contain words such as ‘aim to achieve’ or are based on a sales pitch do not provide objective, measurable certainty. Likewise, service levels that measure an element of the service that is not of importance to the end-user are not worthwhile.
Performance reporting should be based on accurate, comprehensive information. It must be recognised that such reports provide a snapshot of the contract performance at a given time in the past. Your contract manager must therefore ensure there is clarity on:
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Your contract manager should ensure that clear processes are in place to deal with any operational problems highlighted by the performance management reports and to resolve issues quickly. It is very worthwhile to involve the end-users of the contracted service in the assessment of supplier performance and the resolution of any service issues.
Where a service issue arises, the cause of the problem must be identified and assessed to ensure the immediate issue is resolved and that it will not recur. Do not rely on wording in the contract that any failure on your part to notify the supplier of a service level breach will not be deemed to be an acceptance of that breach or a waiver of any future breach—it is best practice to log and notify the supplier of each failure to meet a service level or other metric.
Effective communication between customer and supplier is essential to avoid misunderstandings and disputes, especially when things are not proceeding according to plan. Formal performance reviews are a useful tool to provide a communication pathway. Reviews should be scheduled with documented improvement plans where necessary covering both operational issues and adherence to key contractual requirements. The party taking corrective action must make it clear to the other party that it is aware of the problem and is addressing it. If the effect of the failure cannot be corrected, it may be necessary to negotiate a change to the contract and/or to agree compensation for the affected party.
Monitoring and managing performance and obligations—mini action list
4. Contract amendments, changes, variations, extensions, renewals
Contracts are rarely stagnant. Revisions and amendments are a common part of the lifecycle of a contract.
Keeping track of changes and the effects for each party can be confusing. It is therefore essential to implement a reliable process to approve and record changes.
It is important to stay ahead of the changes and make sure both parties are fully aware of and in agreement on any revisions, including extensions to and renewals of the contract. All such revisions should be promptly uploaded into the central contract repository referred to in section: 1. Set up the process for contract management.
Amendments
Your contract manager should review the contract at an early stage to check that no mistakes have been made. Where mistakes are found, the most practical solution is to create a variation to the contract signed by both parties which clearly references the section to be amended and sets out the new wording. This should be done in conjunction with your legal team to ensure defined terms are used consistently and the change does not result in unintended consequential changes elsewhere in the contract.
Changes
Following the initial review, your contract manager should undertake a regular contract review to ensure the contract continues to meet business needs—with a view to updating it where necessary. A formal process should be put in place to set out the governance of contract change, including who needs to approve what and how it will happen. The focus should be on effective and prompt change implementation.
Minor changes should be managed with a view to the cost/effort being proportionate to the importance and value of the change. More rigorous processes should be adopted up to deal with more complex contractual changes, including clear approval mechanisms and accountabilities.
The consent of the affected party will apply if the parties wish to vary a term which a third party has the right to enforce or there is a guarantee.
Regardless of the magnitude of the change, however, all changes should be formally documented in writing with consideration given for the change—it is likely that the contract will include a clause expressly requiring this. The use of pre-agreed change control templates and approvals workflows help to manage and avoid risk and compliance issues.
Variations
Care should be taken to recognise where one party is attempting to remove provisions in order to renegotiate the contract in its favour. Consider whether the contract is in fact being varied or are the changes are so substantial that the original contract is extinguished and a new one is being entered into.?
Where the variation is a result of the supplier wishing to reduce service levels, it may be difficult to determine whether there has been a variation of a contractual term or in fact it is a waiver. The key distinction is that a variation requires consideration.
Extensions
Processes should be put in place to cover extensions to the contract both in terms of scope (e.g., the introduction of new services) and time.
Both parties should have a clear understanding of the arrangements for any extension to the contract, and related issues including financial changes. Using a change control template will assist in ensuring that appropriate governance is followed.
Renewals
Failure to spot that a contract is about to expire or has already expired is a key business risk because it will result in the parties continuing to perform under the contract without any appropriate contract cover. Efficient management of contract renewal opportunities gives the business sufficient time to make informed decisions about the renewal or expiry of the contract.
The alert system referred to in section: 1. Set up the process for contract management should be used to remind your contract manager to trigger the renewal process on a date well before contract expiration. The period between the renewal alert and the expiry of the contract should be long enough to give the business time to review the contract and either:
Where the contract contains an automatic renewal clause, the alert should notify your contract manager well in advance of the automatic renewal date and, more importantly, the date by which the supplier must be notified of any intention not to renew.
Contract amendments, changes, variations, extensions, renewals—mini action list
5. Transfer, assignment, third party rights and sub-contracting
It is usual for a contract to either prohibit the transfer and/or assignment of the contract by the supplier, or as a minimum to stipulate that any transfer and/or assignment must not be undertaken without the customer’s prior written consent.
Likewise, the supplier’s ability to sub-contract the whole or part of the provision of the services/deliverables is often either prohibited or restricted.
Transfer
The transfer of a party’s rights and obligations to a third party is effected by means of a novation.
A novation extinguishes the original contract and replaces it with another. The outgoing party is released in full from the contract and the incoming party undertakes to be bound by the terms of the new contract. All parties to the original contract and the incoming party must consent.
It is good practice for the original contract to require a novation to be on notice and in writing (a deed removes the need for consideration) in order to:
Assignment
As a matter of general law, a party can assign the benefit of a contract without the other contracting party’s consent and merely give notice after the event. It is therefore essential that the contract provides limitations on assignment, to prevent your organisation being brought into a direct contractual obligation with a third party against its will.
Under common law, the burden of a contract cannot be assigned, therefore the assignment document must contain wording under which the assignee will assume performance of the contract with effect from the assignment. This has the effect of delegating or sub-contracting the performance of the contract to the incoming party, but the outgoing party remains liable for the incoming party’s actions.
Sub-contracting
A sub-contract delegates the supplier’s contractual obligations to a third party. Where sub-contracting is not contractually prohibited, there will be deemed consent for sub-contracting unless:
Unlike a novation, the original party remains liable for the performance of the main contract that has been subcontracted and is therefore liable to the customer for any default in the sub-contractor’s performance. This can have pros and cons:
Do not, however, rule out sub-contracting as a matter of course. It may be necessary to permit sub-contracting where the contract involves a number of specialist services/deliverables, because the supplier can bring in experts to undertake certain parts of the contract.
Another way of managing the risk associated with sub-contracting is to provide, in the main contract, that the supplier will ensure your organisation acquires directly enforceable rights against a sub-contractor by means of express third-party rights. This mechanism can be useful where the subject matter of the contract has particular risks attached or is highly time critical. It is common in construction contracts, for example. However, it means that your contract manager’s role is greatly extended to include direct management of an additional contract.
Transfer, assignment, third party rights and sub-contracting—mini action list
If you would like to know more or need any help with #contractmanagement or #contractlifecyclemanagement then feel free to reach out [email protected]