“The world is held together by innumerable contracts”.
That was an observation of the Nobel committee for economics when making its 2016 award. Add to this the fact that commercial innovation lies at the heart of business and enterprise success and you start to see a rather compelling case for the importance of contracts and commercial management. Indeed, in today’s volatile and unpredictable market conditions, they have arguably become a critical competency – not just for the business, but also for its employees.
Globally, governments and business leaders are awakening to the need for more agile, adaptive organizations, where commercial awareness is not restricted to a body of specialists or hoarded by a few functional experts. In the UK, commercial reform is at the top of the government agenda. In China, contract and commercial management training has become a priority in driving disciplined economic growth. Across industry, top executives are calling for increased commercial skills and identifying the critical need for innovation and speed in trading relationships.
In this environment, while there is certainly a need for contract and commercial specialists, broader awareness and understanding of these disciplines is increasingly demanded of any ambitious professional, regardless of their job role. According to one leading executive search firm, without the ‘outsights’ that are implicit to contract and commercial management, employees tend to be too inward-looking; they tend to become barriers to change; they lack the stimulus needed to promote new ideas or methods.
Many people are getting the message. More and more universities and business schools are incorporating contract and commercial management modules within their programs. Leading corporations are investing in widespread ‘commercial awareness’ training. Over the last 18 months, the IACCM ‘MOOC’ (massive open online course) has attracted almost 100,000 participants – almost all wanting to raise their personal knowledge and development, rather than any plan to pursue contract or commercial management as a job or career.
Increasingly, just understanding the inner workings of your particular business, or having the expertise of your specific work or profession, are not enough. For a career to flourish, awareness of the commercial trends in markets and an appreciation of the agreements that hold them together have become critical attributes.
The IACCM free on-line MOOC starts another run on November 14th. For details or to register visit https://www2.iaccm.com/events/register/?id=2622
It is planning season so I am increasingly being asked for data to support headcount and resource estimates. The questions apply to both contract management and commercial management and for organizations large and small.
As IACCM benchmarks have consistently shown, the answers on headcount and budget are highly variable, but driven by a range of broadly consistent factors. These include obvious considerations such as the scope of the role being performed, the extent of use of offshore / outsourced resources and the relative complexity of the underlying workload.
There is extensive variation in how contract management is performed and this is reflected in the visible level of cost. Even where there are dedicated resources, the average cost ranges from approximately 0.1% of revenue to 0.7% of revenue. Often, the identifiable resources are just the tip of the iceberg – and in some cases, the iceberg is completely concealed. For example, in a study recently conducted by IACCM, we discovered one company where contract management was costing $30 million in legal resources alone, representing almost 30% of the average lawyer’s workload. In another, the role was performed entirely within business units at an estimated cost of more than $200 million.
As identified in the IACCM 2015 Benchmark Report, dedicated contract management resources generate significant efficiencies and cost reduction. But the picture is no longer simple because the nature of those resources is changing fast. In the past, contract management would be performed by a dedicated business function or professional group and the activity depended on people. Today, as we work with organizations on their forward plan, the nature of the skills required is shifting and the extent of automation is growing. The contract management function is poised for major changes which will also transform the value it can provide to the business.
In Part II of this blog, I will describe how that future is likely to look
This year’s IACCM Americas conference confirmed the speed with which contract and commercial management are transforming as business disciplines and in the value they are providing. Conference sessions were full of ideas, examples and case studies. Here are just a few of the take-aways that we captured during the closing presentation.
The critical importance of contracts
IACCM’s COO, Sally Hughes: My first takeaway is the absolute acknowledgement of the critical importance of contracts – the reinforcement of that throughout the last three days has been very evident.
Let’s remember the statement from this year’s Nobel Prize award for economics: “Modern economies are held together by innumerable contracts”.
Another quote at the conference was “Contract Management is a leading indicator of financial performance”. Of course we would fully endorse that statement and our research certainly shows that poor Contract Management and contracting process can lead to value leakage of, on average, 9.5% of annual revenue – an amount that few other improvement projects could come close to matching. We have seen some wonderful examples of how you can significantly contribute to the bottom line by addressing your approach – for example, in the Innovation Award we made this week to Shell.
We said in our opening presentation that “contracts lie at the heart of social, political and economic activity”. It’s important to reflect on this – those are not ethereal words – Susan’s Wittenberg’s moving story demonstrated the role that effective contracting is playing in the eradication of Polio – an example of the critical importance of contracts and the skills of those who manage them – in this case impacting the health of thousands of people globally.
Simplification through Technology
IACCM’s CEO, Tim Cummins: Picking up again from conversations this week, it was Dierk Schindler who said that we need to move from “Masters of Complexity” to “Masters of Simplification”. We have presided over an era of massive growth in the length and complexity of contracts, to a point where 88% of business users can’t understand them and 83% find the process by which they are formed unhelpful. Much of that complexity is a direct result of the new technologies that have transformed business operations and markets. But the reason that contracts and the contracting process are complicated is because we ourselves have done so little to adopt the technologies that would simplify the experience of our clients, users and stakeholders. As we have seen over the last few days, those technologies are available and it is imperative that we accelerate their adoption.
Commercial Innovation
Sally Hughes: My next highlight is “Commercial Innovation”. We have talked extensively about technology and digital transformation, but what about Commercial Innovation? Bryan Barker said in our opening keynote panel that “…we’ve traditionally been here to provide certainty and a backdrop for when things go wrong….”. That is absolutely not our future and anyone who continues with that mind-set is doubtless heading for failure. Mind-set is something that I consider to be a critical component in our quest for change. Both Brett and Liam’s presentations this morning talked to that “mind-set shift” and “unlearning assumptions”. VUCA (volatility, uncertainty, complexity and ambiguity) is our reality and, like it or not, Robots are Rising! We have to accept our reality and decide how we are going to innovate around all of this transformation.
Operate as a Team of Teams
Tim Cummins: My second take away builds on the presentation from Liam Brown this morning and the concept of a “Team of Teams”. As we saw with the success of the FFG Enterprise and their winning of one of our Innovation Awards – we need to rethink the way we use the term “enterprise”. Increasingly we work in extended supply networks or ecosystems. Their interdependence means that we must break down the borders and boundaries of traditional enterprise thinking and enable operation as a team of teams. But this concept goes further. For example, when we undertake research, our members often tell us that the biggest barriers to change, to innovation and to increased business value are created by the silo-based thinking that goes on within their organisations. Going further, we should think about our professional community itself and how “outsights” represent our source of status and business contribution. These can only be attained by again considering ourselves, this community, as a team of teams, eliminating the narrow thinking that views other companies, other industries, other countries as having little or no relevance to our work. We must stop claiming that we are all ‘special’ – because it is that belief and the ‘specialism’ that it implies that creates barriers to teaming. At the heart of enabling “team of teams” thinking, lies greater transparency, data exchange, shared tools and systems – in fact many of the characteristics that we have identified as being at the heart of relational contracting.
Outsights
Sally Hughes: That brings me nicely to my last takeaway which is “Outsights”. How many of you knew what that word meant before you came to this conference? I hope that having spoken to this term, we have now clarified what we mean. So how many of you feel that you haven’t gained any outsights over the last few days?! And how many of you will not be going back to your organisations with new ideas?! I’m so pleased to see no hands being raised! We make the point each year, but it is always important to reiterate – the primary purpose of IACCM is to be your source of outsights and it doesn’t stop here, with the end of the conference . We will be running this week’s ATE on Thursday afternoon as always, our library continues to fill with a plethora of material and resource for you to refer to you at your leisure. We have communities of interest where you can test your ideas and gather new ideas at the same time, member meetings, message boards – the list goes on. Equally you can reach out to any one of the IACCM Team at any time.
We still have a way to go with some of the concepts that we have been talking about but we certainly sense from our many conversations that these last three days have provided you with new examples and ideas and demonstrated how you might be able to do things differently.
Measuring our success
My last takeaway builds on a conversation inspired by John Proverbs on how we should measure and demonstrate success. Our current measurements inhibit the value that we bring to our business and stand in the way of commercial excellence. Indeed, a focus on short-term savings or compliance can often detract or even undermine that value. While transactional performance is clearly important, it rarely offers the insights that we need if we are to raise our status and our contribution. Our thinking and our measurements must start to focus on driving benefits at a portfolio level and relate directly to achieving the strategic goals of our business. Most typically today these goals demand improved speed, quality, integrity and financial performance.
Value will be delivered through a process based view, through monitoring the outcomes of what we do, through generating measured innovation and continuous improvement. This depends upon capturing and analysing performance data, through challenging established rules and procedures, through inspiring the new models and approaches we have discussed this week. And it also depends on courage – developing leadership and influencing skills.
The agenda is clear and is contained in two infographics in our Future of Contracting and Commercial Management Report. These explain the market forces and influences that have transformed the required role of Contract and Commercial Management and the characteristics of the new model we must adopt.
Next Monday morning start the change by making sure that a copy of the report is on your CEO’s desk.
“Investments in organizational capabilities rather than specific technology choices separate the leaders from those who still have work to do”.
This quote comes from a recent study by McKinsey, a leading management consulting company. They are referring to the adoption of Cloud software and service solutions and make the point that it is defining and equipping capabilities that makes the difference to business performance.
This conclusion is very similar to other comments I have been hearing recently – that increasingly it is users of services who best understand their needs, not technical or commercial experts. The problem is that the experts will often make buying decisions that align with their particular measurements or interests, rather than whether those decisions increase organizational capabilities. The result may be that short term savings destroy longer term value.
It is increasingly argued that our digital age means the pendulum is swinging towards users. They have access to knowledge and information that previously only ‘the experts’ could assemble and understand. And as we move away from product sales to solutions, services and outcomes, it is those users who need to be investigating options and evaluating their impact. Only users can really appreciate the value of particular features or functions, or recognize the potential to innovate the way they do things or what they can do.
Contract management technology is a good example, As more and more new solutions reach the market, the potential that comes with analytics, with artificial intelligence or with ‘the internet of things’ is hard for someone with a non-contracts background to understand. Hence, many of the systems that have been acquired are simply not being used. They offered too little benefit.
What does this mean for the process of buying? It suggests that the future will lie far more with the groups that represent ‘capability’ and far less with central functions such as IT or Procurement. Indeed, the purpose of these central groups will be solely to enable others by developing business capability that draws on their area of expertise – in other words, to be an enabling (rather than control) function.
One of the challenges associated with risk management is the tendency for those identifying risks to be seen as negative. And a consequence of that perception is that their views and advice start to be ignored. That, surely, was one of the lessons to be learned from the Brexit campaign, where voters ultimately rejected the unrelenting gloom projected by those who supported staying in the EU.
Yesterday, I was speaking with an IACCM member who explained that their commercial proposals are often viewed as ‘too negative’. She was wondering whether the problem was one of process, presentation or perhaps culture. Of course, it could be any of those things – but in many cases, I think the issue is that businesses (and especially commercial groups) become out of touch with the market. They are so focused on the risks of the past that they fail to adapt and address the risks of the future.
A conversation later in the day (ironically with a competitor to the first company) illustrated this point. We found ourselves discussing the role of commercial staff and the challenge they must face of moving from acting as ‘defenders of the status quo’ to being ‘catalysts for change’. This shift is problematic, but essential.
It matters because the world is steadily moving towards contractual relationships that are focused on delivering outcomes or results. Customers want to reduce the risk associated with buying the wrong thing. In a digital age, they expect suppliers to have greater intelligence, more focus and increased responsibility. Obviously this translates to a different conversation about risk.
The problem for a supplier is that such relationships demand different capabilities, such as much greater insight to their customer and confidence in the accuracy of requirements. They also require effective approaches to governance and performance management (as illustrated by the two researchers who won the 2016 Nobel Prize for economics). So commercial staff find themselves with a dilemma, which is that customer expectations often misalign with the current capabilities of their company – and of course are therefore in conflict with accepted policies, procedures and practices. As a result, the concerns they express inevitably seem ‘negative’.
Many commercial staff are aware of this conflict and wish it could be different, but the timing of their engagement (typically when a new bid request arrives) and their interpretation of their current role (typically perceived as offering advice that protects the business interests) stand in the way of change. Shifting business capabilities and developing new commercial models is not something that you do overnight.
But as my second conversation revealed, leading commercial groups have recognized that our world has changed. “In the past, values were relatively set; both parties knew the rules of the game. Now, we must redefine those rules – and it is up to commercial managers to take a lead, rather than hide behind the policies of the past.”
If we fail to accept this challenge, we will indeed be seen as ‘negative’. Whether you are in a legal, procurement or contract management role, it isn’t acceptable to shrug your shoulders and say “This is the way it has always been”. Risk management actually depends on sound commercial judgment – and that demands a focus on understanding when the time for change has come and then doing something about it.
“But do we know what our competitors are doing?”
Anyone who has had a role in setting policy or drafting contract clauses will be familiar with that question. None of us want to establish positions that make us uncompetitive; yet we don’t want to take unnecessary risks. So no matter whether you are buying or selling, it would be really helpful to have market insight.
Until now, that has been very difficult to obtain. Groups like Marketing simply don’t know how or where to gather such data. So we often depend on scraps of information, examples we can find on the internet, or perhaps past employees of a competitor. But today, the situation is changing fast. Here is an example.
An IACCM Corporate Member sent a question last Friday, asking about norms and standards in limitation of liabilities, in particular the amount and calculation of damages. They included a sample of their current approach, related to large services and outsourcing agreements. Within 48 hours, IACCM was able to provide this answer:
“Based on review of more than 100 agreements, it is safe to say that a cap based on 12 months of aggregate charges is a norm. There are extremes where this is as low as 3 months or as high as 18 months. In some instances, the cap is based on all payments made, which might of course raise this time period, or on the amounts paid ‘over the period associated with the claim’.
One significant variant is whether the cap relates to payments made for a particular service, or under an overall transaction document, or under ‘the Agreement’ in total. Obviously these could be very different. The nature of exclusions seems relatively standard – lost profit, indirect, consequential – but you might consider not having the limit apply in certain areas – for example if there are particular covenants, or related to breaches of confidentiality. You might also have specific incremental compensation – for example, if you have a right to terminate in addition to damages, you might seek to recover associated costs.
In a multi-year or multi-service agreement, you need to be clear whether the limit applies to service periods or to individual services – in other words, during the life of the agreement, how many individual claims could be made? A key question is of course the relationship between the LoL and any clause related to Liquidated Damages or service level credits. For example, is there a point at which a service level becomes so poor that it becomes a material breach and switches from being covered under the LD provisions, to being a claim for damages? It is the norm for agreements to have such a switch, typically based on consistent under-performance at a certain percentage.
And related to this, is the calculation of damages based on gross charges, or charges net of credits, allowances etc.? The norm is relatively split on this, perhaps reflecting the relative power of the parties. Arguably, the gross amount is more equitable in that the supplier should not really face a reduced claim simply because they have performed so badly in the past!”
This is a current example of the way that technology is starting to transform the knowledge and information available to contracts and legal professionals, supporting their ability to engage in far more strategic discussions in the business. You no longer have to wait to be challenged over the clauses in your agreements, to have Sales or the business unit complain that your terms are an impediment to business results. Today, you can undertake proactive analysis that enables you to speak with confidence – and, where necessary, to challenge others in the organization who may be impeding your competitiveness and causing avoidable negotiation or tension with customers and suppliers.
If you are interested in this IACCM benchmarking service, contact info@iaccm.com. This blog is based on market analysis and nothing in it should be taken as legal advice since its applicability and use will depend on your specific needs and situation.
For those who say that contract management doesn’t really matter, the announcement of this year’s Nobel Prize for Economics must come as rather a shock. It has been awarded to Professors Oliver Hart and Bengt Holmstrom for their work on contracts.
The press release observed: “Modern economies are held together by innumerable contracts….. As such relationships typically entail conflicts of interest, contracts must be properly designed to ensure that the parties take mutually beneficial decisions.”
It’s a good moment for reflection: would your contracts merit an award for being “properly designed to ensure that the parties take mutually beneficial decisions?”
The point in the press release about ‘conflict of interest’ is not new. It is fairly obvious that a supplier would like to make as much money as possible, with the least possible effort. That is not the perspective of a buyer, who wants a guarantee of performance at the lowest possible price. So reaching and then recording agreement has always been a key role of the contracting process, along with establishing some rules in case things go wrong or someone doesn’t do what they promised.
The thing that has changed is that contract performance is increasingly surrounded by uncertainty. The volatility of markets, the actions of competitors, the introduction of new technologies, the unpredictability of geopolitical conditions – there are so many factors that potentially disrupt or derail the original agreement, even when both parties are entirely honorable in their intentions. It is those factors that lead to another quote from the Nobel press release:
“Contracts are incomplete instruction manuals. They cannot specify what should be done in every case. Instead, they must stipulate how decisions should be made.”
In other words, the issues we confront when we form a contract are often unknown or unpredictable. Therefore an effective contract creates a set of ground rules or techniques through which such issues will be addressed. Most contracts today fail in this purpose because they are designed more to achieve legal certainty than to drive economic performance.
Over the years, IACCM’s research and training has been driven by a conviction that contracts are critical instruments in generating economic and social value. It draws from academic theories such as those developed by Professors Hart and Holmstrom to promote practical solutions, such as performance and outcome-based contracts, innovative contract design, identifying pitfalls and discovering the true value-add of professional contract management. Progress has been held back because business and governments have been slow to appreciate the importance of ensuring that contracts (and their management) are “properly designed to ensure that the parties take mutually beneficial decisions”.
Perhaps this Nobel award will assist in creating greater momentum for change. Certainly it should cause everyone involved in the process of creating and managing contracts to reflect. Are we adapting our contracts and contracting practices to the needs of today, or are we still following the traditions of the past? Do we see contracts as weapons, or as instruments that encourage mutually beneficial decisions?
It’s not too late to register for the 2016 IACCM Americas Conference, where we will celebrate the success and recognition of this Nobel Award and equip participants with the insights they need to turn theories into business reality. Join us in San Diego and return to your business equipped as a leader of change.
There are few better ways to establish irrelevance than to be a barrier to change. Could this be the fate awaiting many business negotiators and contract managers, if they continue their reluctance to embrace technology?
IACCM’s most recent survey explored the challenges of ‘protracted negotiations’ – an issue which we know frustrates many senior executives. With technology driving and accelerating most business processes, the world of contracting is an increasingly visible stand-out and barrier to the digital world. Even in those organizations where change is occurring, it is rarely led by the practitioner community. Too often, change happens around and in spite of those who (from a role and function perspective) should be its leaders.
In the survey, practitioners acknowledged the need for faster turn-round times, but the results revealed that current steps are having minimal impact. There is a reluctance to embrace or promote the steps needed to achieve improvement. For example, in many cases they simply want to go back to the past, with over 70% believing that more ‘face to face’ negotiation is the answer. Perhaps they believe that if they just wait, the rest of the world will see the light and the digital world will go into reverse.
There have been plenty of people in the past who shared that belief. Some were even proactive in destroying the technology that they considered their enemy. They did not fare well.
The reality is that negotiation and contract management processes will be supported by automation and it will result in streamlining and improving business results. It is my hope that those who understand these fields best will grasp the opportunity to define their future.
For almost 20 years, i have observed a similar problem with contract management software. Rather than work in harmony with the application providers to develop practical systems that deliver superior results, the contracts and legal community has mostly preferred to stand on the sidelines and criticize. Now we are seeing similar reactions to negotiation software, even though IACCM tests have shown the potential that software has in driving vastly superior negotiated outcomes. In fact, we found that face-to-face negotiation is the problem, not the answer.
Dynamic systems are starting to emerge (for example, from Synergist), where organizations can establish value-based trade-offs, rather than the typical compromises or power-based settlements of today. They reach agreement faster and are far more likely to generate win-win results. But while some practitioners are interested by this direction, most find multiple reasons why it won’t work, or set unrealistic pre-conditions even for running tests or a pilot.
To flourish in the future, people must be ready to innovate, to experiment, to take risks; or they must at least have the courage to imitate those leaders. Because if we are not either innovators or imitators, we are consigned to Warren Buffet’s third category – the idiots. And that is not a good place to be.
Is it really 17 years?
This week I was taken by surprise when messages of congratulation started flooding in. They were a reminder that it is 17 years since IACCM was incorporated, with a mission to put contract and commercial management ‘on the map’.
So how have we done? In those early days, many were skeptical that anyone would care. Today, with 40,000 members representing some 14,000 different organizations, we can probably say that we proved them wrong. Others insisted that there was no point because the role was ‘fundamentally different’ in every industry, as well as every jurisdiction. Once again, with members in 164 countries and from every industry, I think we can assume they were mistaken.
Today, there is an established ‘body of knowledge’, globally available training programs, a respected professional certification standard and vibrant member networks, on-line and physical. A fast-growing research base has taken contract and commercial management from a mysterious craft to an acknowledged discipline. Organizations and individuals consciously strive for excellence, appreciating the value this discipline brings to their business. So can we now rest and say, after 17 years, ‘Mission accomplished’? Far from it – in my view, it is a journey just begun, with so much more it can deliver.
In both business and government, there is demand for commercial innovation and excellence – yet far too little supply of individuals with the necessary skills and thought-processes. Both contract and commercial management remain starved of the right technology. While internal enterprise activities have been automated and streamlined, the same cannot be said of inter-enterprise relationships. And IACCM benchmarks continue to show the challenge of establishing accountability for contract and commercial capabilities.
By their nature, contract and commercial management span multiple disciplines. They are activities that integrate – and therefore have no natural home in the typical corporate structure. That is why they report to so many different places and often lack an executive champion or sponsor. It is therefore ironic when top management complains about the lack of ‘commercial excellence’ or ‘contract management competence’. The answer to this is in many ways in their own hands, yet they fail to make the appointments or the investments needed. And as our research shows, that failure incurs real costs and results in the loss of real opportunities.
So there is still some way to go on this particular journey. I hope to report a real acceleration of progress when we hit our 20th birthday – and I am looking forward to many more joining the party!
In the Financial Times (September 7th), Martin Wolf commented that globalization ‘has stalled … and it might reverse’. He cited the unexpected consequences that have flowed from the globalization of markets, such as mass migration and growing inequality, which are reducing public and political support. This is reflected in ‘stagnation of world trade’, even when the world economy is growing, and a reduction in cross-border financial assets and foreign direct investment.
Some reductions are inevitable. For example, there are not infinite business processes or manufacturing activities to outsource and the great wave of this activity is therefore in the past. Geopolitical instability has been accompanied by increased protectionism and trade liberalization has stalled.
At IACCM, we observe some additional factors that may be influencing corporate behavior. Back in the 1990’s, networked technologies suddenly started to enable new – and more remote – trading relationships. This challenged long-established supply chains, eroding old loyalties. Lower prices became the mantra of every Procurement department and existing suppliers were either discarded or forced to move production to low-cost economies. But while purchasing savings might have soared, other business costs often increased. Dealing remotely, across cultures, brings many additional transaction costs, as well as a host of additional business risks – reputation, reliability, regulatory compliance to name but a few. While globalization certainly brought benefits, it also brought increased complexity.
Now, some 15 years after the great wave of ‘low-cost sourcing’, businesses are more hesitant about their off-shore relationships and, in many cases, more conscious of the true costs. They appreciate the challenges of good communication, of effective audit, of reliability of supply. In a recent IACCM survey, more than 70% of respondents believe that to be effective, negotiations must be face-to-face. So our virtual world continues to have limitations and as with all great waves of change, initial enthusiasm is followed by a period of reflection.
Commitment Matters 