Renegotiation Strategies for Service Contracts
By: Expense Management Solutions Printed in: Newsletter
Over the last two years, economic reality has changed drastically, and if you haven’t reconsidered your service contracts in light of changes in your overall business strategy and the new realities of the marketplace, then it is likely that those contracts are no longer in alignment with your needs. But how do you determine if this is a good time to consider renegotiating a service contract, and when it is a better strategy than going to a full RFP?
Why Consider Contract Renegotiation?
In most cases, simply identifying the opportunity to tighten the screws on your existing supplier and negotiate a price reduction is not a valid justification for renegotiation. Like most corporations, service providers have been hard hit by the global economic downturn. Taking away a service provider’s margin may doom that relationship, and the failure of a critical service is rarely in your best interest.
However, it is equally destructive for your service provider to continue to provide and charge for services you no longer need, either because your business model has changed or business has contracted. Was your initial contract designed to focus on innovation, but your current business objective is cost reduction? Has your company reorganized internally in such a way that the provision of services, flow of information, and management of the relationship are no longer efficient and effective? These are all critical strategic business considerations, and their resolution is in the best interests of both parties to the contract. Of course, anytime your service contract is not meeting your expectations, or you feel that you are no longer receiving the value you expect from your service provider, you should examine the current relationship and try to determine what is causing the problem.
Even if your contract is nearing its end, you may consider renegotiation as an alternative to a full RFP. A full RFP for a complex service may take six to nine months and cost the client and each of the responding service providers thousands of dollars. If, as is the case in the current marketplace for many corporate services, there are only a few qualified providers, a full RFP may offer few advantages over a contract renegotiation. You may even find that some service providers are unwilling to go through the cost of competing with an incumbent, especially if the market’s perception is that the existing relationship has been relatively harmonious.
Another reason you may be required to renegotiate a service contract is the changing regulatory landscape. For example, the new definition of a “Business Associate” under updated HIPAA regulations has significantly expanded the number of companies that must comply with HIPAA rules and regulations. This new definition may force many companies that either provide healthcare services or provide services to healthcare companies to renegotiate service contracts. In another example, the “Buy American” provisions of the TARP program may limit either the service providers that can be used, or the locations in which you, and therefore your service providers, can provide those services. Even if you can continue to use your current service provider, you may need to renegotiate the contract to add stipulations that bring you into compliance with the new restrictions.
Preparing for Contract Renegotiation
As you prepare for contract renegotiation, there are a number of things to take into consideration, not the least of which is ensuring you have identified all the key stakeholders in the current relationship. This may be more complicated than it, at first, appears. A company that may be a service provider for one stakeholder, may be a client of another stakeholder. Several business units may have separate relationships with the same service provider, either for the same or for different services. A disruption in the relationship may have internal as well as external repercussions throughout the organization.
It is important to have a solid grasp of your internal demand for the services offered by your service provider. Building on the example above, is it in your best interest to consolidate the contracts of multiple business units under a single contract? Does the service provider offer other services that may increase your leverage and consolidate your supplier base? Are you ready to move from a tactical to a more strategic relationship with your service provider? Perhaps the risk profile in the marketplace calls for more diversification rather than consolidation.
Another critical consideration is the composition of the team that is selected to enter into contract renegotiations with the service provider. The approach and the skills of the individual or individuals chosen to renegotiate an expiring contract when the service provider knows that the client’s business is up for grabs is entirely different from the approach required to renegotiate an existing contract when the client is subject to cancellation provisions, penalties, and possible business disruptions. Do you have the required talent and experience available internally, or should you consider bringing in an outside expert?
Finally, before you enter renegotiations, you must have a clear understanding of the provisions of the existing contract, your objectives, timelines and what you consider to be an acceptable outcome. Then, be willing to clearly communicate your needs and expectations so that your strategic partner – your current service provider – can work with you to develop the right solution.
Potential Benefits of Renegotiation
Properly executed, renegotiation of an existing service contract is a win-win, with the potential to reduce costs and realign critical business services to support changing business strategies. For the service provider, it presents opportunities to extend a relationship, offer additional services to an existing client and increase value through strategic partnership.
However, a poorly conceived and executed renegotiation strategy can poison a valuable relationship. This is often the result of several common missteps:
- Don’t misinterpret the marketplace. You may not be as important to your service provider as they are to you.
- Don’t use a hammer, when a gentler approach to renegotiation is warranted.
- Don’t include services you don’t need. Make sure you understand your needs and your bottom line.
- Don’t forget about the importance of transition and a well-crafted relationship management strategy to lock in the benefits of the contract for its entire term.
Another benefit of renegotiation of a service contract is that it provides you with the opportunity to improve the contract itself. Is your scope of work sufficiently detailed to avoid confusion and misinterpretation? Do you have good service level agreements (SLAs) built on outcomes-based specifications, clear metrics and key performance indicators (KPIs)? Have you built in performance-based compensation with a portion of the compensation placed at risk? Do you have sufficient reporting requirements and an underlying technology that enables effective relationship management? Contract renegotiation provides you with the opportunity to address these and other issues to maximize the value of your supplier relationship.
Conclusion
The current economic climate offers many opportunities to derive benefit from contract renegotiation, but you have to do your homework and make sure you address all the critical elements. Understand your needs, your objectives, the marketplace, and invest in the time, the tools, and the expertise required to ensure a successful outcome. Those that do will be better positioned to compete and succeed in the future.
Michele Flynn, president of Expense Management Solutions, Inc. delivered a presentation on this topic at the SIG Global Leadership Summit in Baltimore earlier this year. To view excerpts from this presentation, click here.
