Customers must negotiate better to redress
balance
Large companies now use their bargaining power to
impose onerous terms on suppliers in outsourcing
contracts.
This trend is reflected in the Office of Government
Commerce's model terms and conditions and in a recent Gartner
survey, which revealed that suppliers are now being forced into
more flexible outsourcing relationships and contract renegotiations
during the life of the project.
However, this does not mean power is shifting away
from suppliers. Research by Deloitte Consulting found that
customers do not always receive the anticipated benefits of
outsourcing, in terms of cheaper, better or faster services, and
that problems often arise in the early stages of the outsourcing
relationship.
If customers are negotiating better terms, why are
they experiencing problems? If a supplier is not performing its
contractual obligations, the ultimate sanction is to terminate the
contract. But in an outsourcing project, termination is fraught
with legal and commercial difficulties, especially if problems
occur early in the relationship, and this sanction cannot always be
used. This weakens the customer's bargaining position.
Right of termination
For instance, a right of termination only arises if
it can be shown that the breach was sufficiently serious to deprive
the innocent party of a substantial benefit of the contract as a
whole. However, the scope and length of a typical outsourcing
contract makes "substantiality" difficult to measure. For example,
in a 10-year contract, what significance should be attached to a
six-month delay?
It can also be difficult to determine whether some
contractual obligations have been breached at all. Outsourcing
contracts are usually designed to be "future proof" and so the
supplier's obligations are often described as broad objectives,
without specifying when or how they will be achieved.
A service credit regime is a means by which the
customer can regulate important services. If the supplier fails to
meet prescribed technical requirements, it will be liable to pay
liquidated damages and if the level of services then falls below a
certain threshold, the customer will usually acquire the right to
terminate. However, the service credit regime will not normally
apply in the early stages of the relationship. Also, such a regime
has practical limitations: it cannot be used to regulate subjective
contractual obligations, such as obligations relating to
quality.
Pragmatic and flexible
Although the parties will usually agree a mechanism
to characterise problems as material breaches so issues are
identified and addressed before either party acquires a right of
termination, it is often difficult to use this in the early stages
of the contract. In particular, good practice dictates that the
parties to an outsourcing contract should be pragmatic and
flexible, but this can mean problems are not confronted early
on.
On top of all this, most outsourcing relationships
are difficult and expensive to unravel. Even if the customer has
obtained stringent contract terms, termination is rarely a good
commercial option: it is often cheaper to work with the incumbent
supplier, even if it means paying them more than originally
agreed.
The Deloitte survey reported that bargaining power
shifted to the supplier after the contract was signed and, in a few
cases, the supplier was forcing the customer to renegotiate in
order to obtain higher rates.
These risks could be mitigated during the contract
negotiations, by focusing on the scope and nature of the
transitional arrangements and by including specific mechanisms to
address problems or delay at the beginning of the contract term.
This is often a neglected area in the contract and there may be no
real remedy against the supplier until the outsourced services
begin in earnest.
Also, the customer needs to make use of any
management provisions in the contract which are intended to ensure
problems are addressed as and when they arise throughout the
project. If the customer has not complied with the contractual
mechanisms for dealing with such problems, it is very difficult to
act on them later.
Notwithstanding the strength of the user's initial
negotiating position, after they have reorganised and divested
their own IT assets and employees, they need to manage the inherent
imbalance of power which favours the supplier.
Anna Cook is a partner specialising in IT and
dispute resolution at law firm Wedlake Bell
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