Outsourcing contracts: Getting started - Essential Guide

Outsourcing contracts can be complex affairs, but a good outsourcing contract will examine service level agreements, penalties and rewards, timeframes and measurements, regular reviews, and exit strategies.

Outsourcing contracts can be complex affairs, but a good outsourcing contract will examine service level agreements, penalties and rewards, timeframes and measurements, regular reviews, and exit strategies.


What are outsourcing contracts for?


Outsourcing itself can cover any or all IT system operations, with some organisations choosing to outsource their whole IT requirements.

In these cases, they tend to work closely with an outsourcing service provider, at home or abroad.

The sorts of operations that are often outsourced include the running of desktop and server applications, business processes, backup and recovery, customer services and billing.


What are the benefits of outsourcing?


The benefits for businesses that outsource their IT include lower IT costs, and the ability to scale up their operations as and when required.

They can also gain from using the expertise of the outsourcing company’s engineers and support staff. This is particularly handy if IT is not your core competency or industry.


How do I get started with outsourcing contracts?


It is a good idea to clearly define the scope of the outsourced operations beforehand, to have a good idea what exactly the service provider is doing, and what is left to your business.

Striking the right outsourcing deal also comes down to having the right legal agreements at the core of a contract, so it is worth getting the right advice.

The contract itself should be clear, fair and well negotiated from the start. It should define the full extent of the services that are to be delivered and for which the service provider will be responsible.

These are called service levels and service level agreements.


What do I need to know about service level agreements?


Service levels are formally agreed targets which the service provider must meet, and the list can be as long or short as the user organisation requires.

They should be based on detailed schedules, with the point being that neither side can be in any doubt as to what is required of the service provider.

Setting these service levels so that both parties can benefit are fundamental to business process outsourcing contracts.

As well as describing the deliverables and expectations of the service provider, good contracts will also describe the reporting methods for service level measurement. These could cover factors such as how and when targets are met.

They could also include potential penalties or benefits if requirements are or aren’t met.


What penalties or benefits can I apply?


Service levels can have penalties or benefits attached to them. The most common forms of penalties are service credits, and liquidated damages, (also referred to as liquidated and ascertained damages).

Liquidated damages are calculated in relation to the customer's estimated potential loss. They might refer to a specific breach of contract, such as late performance.

In terms of rewards, benefit sharing is often used to reward the service provider for delivering real business value to the customer.

Percentage uplift is another term used to describe a clearly defined improvement on a service benchmark, for which there can be a financial reward.


What else do I need to consider with an outsourcing contract?


The key to outsourcing with service levels and outsourcing contracts is clarity.

But this can be different if the contract covers many operations, with large and complex systems requiring different levels of service.

However, if the agreement is too loose or hard to understand both parties lose out.

Also, objectivity is important in ensuring the service level measurements are fair for both parties. For example, is a service level measurement tracking a response time, or a fix time?


How do I terminate or end a contract?


It is vital to have a well thought out termination or exit strategy from the outset, and also to have options to continue after the end of the contract’s term.

Termination conditions cause frequent disputes, particularly if there is a transition and handover period between two service providers.

Options to consider are break clauses which allow either party to end the agreement early. You might like to form contingency plans in case either party gets acquired. Finally, you might want the option of partially terminating the contract.

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