Renegotiating Outsourcing Agreements: Plan Carefully and Ensure Early Stakeholder Buy-in

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When considering renewing and extending an outsourcing agreement, a different set of dynamics often comes into play when compared with the initial transaction. As organizations’ outsourced relationships change and mature over time, it’s a good idea to try and capture lessons learned by undertaking a post closing review in order to better understand what went well (and not so well) and to formulate those lessons learned for sharing within the client organization. So let’s explore a few of those lessons learned in the context of renewing or extending an outsourcing agreement:
Plan and Prepare: Over the course of a long term agreement, things change, new needs emerge and certain areas almost always need correction or refinement. Identify all of these at the outset, solicit input from the stakeholders (sponsor, SMEs, procurement, legal) and prepare a plan.
Understand the Risk (and have a Back-up Plan): There may be many sound reasons to remain with the current provider and forego a competitive procurement. But with no competition the leverage balance swings in favor of the provider. Be prepared with a plan B (and make sure you have enough time to pursue it if things don’t go well with the incumbent).
Align with Management and Communicate: Both the project plan and the back-up plan should be communicated to management and to the project team at the outset to avoid surprises and mismatched expectations.

With these actions in mind, let’s examine some of the common pitfalls that they can help avoid.

A recurring issue in these transactions arises when key stakeholders are not appropriately informed of the steps and contractual adjustments (and hence the time and level of effort) required for putting into place what is often mistakenly viewed as a “simple extension.” The results frequently are a set of false expectations in terms of how long the transaction will take and how much it will cost, leading to an unfortunate sense of frustration experienced by the business if things do not go as initially planned. Often this is simply the product of mismatched expectations which could have been avoided by adopting a more robust planning and communication strategy.

Take a typical scenario where a client has outsourced a function (could be IT or a business process such as HR, F&A or procurement). First time round, the client developed a sourcing strategy, tested the market, issued an RFP, created a large internal project team supported by costly external consultants and lawyers, ran solution design workshops, facilitated bidder due diligence and conducted a thorough evaluation eventually leading to down-selection and the appointment of a preferred provider. A contract is then signed, transition occurs and steady state operations ensue. That was 5, maybe 7 years ago. Since then the winning bidder has become one of the client’s “strategic partners” and the relationship has grown like topsy, transformed from the original single service tower, one country deal into a multi-country, bundled deal.

Quite likely too, in the last year or so before the initial term is set to expire, perhaps following a benchmarking or market testing exercise, the client sponsor calls in the service provider’s top people and a new deal is reached for an extended period. The client sponsor is happy thinking that he’s negotiated a better deal on price (which immediately gets booked as part of the internal budget process), and the service provider gets the certainty of another fixed term deal, without the need for either party to go through a competitive process. Supported by the procurement team, the client sponsor develops a memorandum of understanding which is quickly “agreed” with the service provider. Job done thinks the client sponsor; all that’s needed is to turn the MOU over to the legal team which can surely handle this in a couple of days.

When the legal folk get involved, they discover that those past years’ contract activities have been handled through a myriad of change control orders, ad hoc project documents, transition plans, contract addendums, etc.; as the client’s contract management team struggled with contractual documentation, which was never designed to cope with such change. And as they dig a bit further, they discover that the parties want to review and streamline some of the current contract processes, perhaps the change control procedure isn’t working as well as it should be, or they discover that some of the more tricky aspects of the relationship, such as the party’s respective transition obligations and responsibilities, need better defining. Then they figure out that the already expanded geographic scope combined with the client organisation’s future plans mean that the strained contract documentation is going to need a substantial revision, perhaps to properly cater for local laws and regulations in the expanded geographies, as well as topics which there was no need to be address the first time around, such as foreign exchange, local billing and withholding taxes.

It quickly becomes apparent that putting in place the new contract is not as straight forward as the client sponsor initially believed. And that the MOU is so high level that further work will be required to drill down to the requisite level needed for, among other things, the revised pricing. Then, to add to the woes, the client begins to realise that much of its leverage disappeared with the signing of the MOU, at which time the service provider knows that the client has no real alternative (i.e. there is no time for a competitive procurement). This is borne out in the contract discussions where the client learns that no topic is considered off limits by the service provider’s legal team, resulting in long and painstaking discussions of each and every term and condition of the new Master Services Agreement.

We are seeing many opportunities for outsourcing clients to derive benefit from contract renegotiation in the current economy. However, to get the best outcome an outsourcing customer’s negotiation team must plan and prepare carefully (and early) to address the critical elements of the transaction, including the structure of the renegotiated and extended contract package. In any contract renegotiation it is essential to ensure that all the key stakeholders are identified and buy into the renegotiation strategy, goals and objectives at the outset, and are kept informed of progress on a regular basis to avoid surprises.