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The Costs Of Poor Contract Management

October 4, 2010

What is the scope of contract management?

That is a source of endless debate. For many, it is seen primarily as a transactional activity, focused on ensuring compliance with standards, or that ‘deviations’ are adequately reviewed and monitored. In some cases, ‘contract management’ is seen as purely a post-award activity – on the basis that until it is signed, the contract does not exist.

A growing number of companies have grasped that contract management is a much broader discipline, that oversees the integrity of obligations, commitments and behavior with external parties. The need for this wider view has been illustrated by three cases that have arisen in the last few days – Novartis, Verizon Wireless and the mortgage documentation of several major US banks.

Although the situations that have resulted in regulatory and media attention are very different, each of them demonstrates a lack of integration in the way that markets are handled.

Novartis agreed a settlement of $422.5m related to marketing practices that promoted drugs for non-approved use, with incentives to the medical community. Not a contractual issue? It would be viewed as one by a best practice contracts organization, where business and market practices are always reviewed. Firstly, such a group should have ensured that there was no misrepresentation of the product; secondly, it should have checked that marketing promotions were in compliance with competition law and regulations.

Verizon Wireless is set to refund an amount ‘between $30m and $90m’ to customers in the US who were wrongly charged for data and internet services. Once more, not a contractual issue? To the extent that there was a technical issue in the design of handsets, it could indeed be argued that, while there was certainly a contractual consequence, it was not something that any contracts group would have anticipated.  However, when customer complaints started flooding in, I think that the position rather changed. I am sure there are some who would say that this was an invoicing problem, nothing to do with the contract. Of course I would disagree – and I hope any professional contract manager would take the same position. Contracts govern pricing, charging and payment mechanisms. Implicit within any contract relationship is the importance of trust and integrity. That includes ensuring the bill is correct and addressing complaints in a timely manner. If those responsible for contracts were not aware of the problem, then it points once more to a fragmented process for contract commitment and oversight. It should not have happened. (As a footnote, experience shows that high volumes of invoicing errors are almost inevitable when companies create high levels of granularity in their pricing structures. The business complexity that such structures introduce means that the supposed benefits are often outweighed by the internal administrative costs – which is once more a problem that can often best be highlighted by an alert contract management function.)

Finally, we come to the US banks. The story there is that the major banks appear to have been unable to coordinate their paperwork, resulting in growing challenges to their foreclosures on mortgage defaults. Problems range from incorrect or missing data on contractual or regulatory forms, confusion over which company actually owns the mortgage and questionable internal controls and notarization procedures. It sounds like a system that has gone haywire, partly due to the volume of business that was being undertaken and also due to the fact that the system was not designed to cope with the financial industry meltdown and resultant volume of repossessions.  The lesson here appears to be that fast-growth markets often place immense pressures on back-office systems, such as contract management. But fast-growth markets are also risky, making investment in supporting systems a high priority. It is frequently tempting to chase business and believe that the systems will catch up – but often they do not, and certainly they do not if there is no one focused on driving the catch-up.  In general, modern banks appear not to give sufficient attention to the management of external relationships, either buy-side or sell-side.

 In all these cases, the costs of poor contract management have been high. In reality, the headline figures are of course a massive understatement of the true costs – the need for investigation and review, the reputational damage, the on-going costs of increased regulatory oversight ….. it would certainly have been far cheaper to have invested in the development of an holistic contract management process and related tools in the first place.

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