In a recent article, the Association of Corporate Counsel offers its ‘Top Ten Tips In Drafting & Negotiating International Contracts’.
While the items listed are worthy considerations, they miss the most critical issues and in some instances, fly in the face of good practice.
So what is wrong? Essentially, the article displays an absence of appreciation for the key risks associated with doing business internationally and the role the contract can and should play in avoiding failure. For example, many experts would suggest that the number one issue in any contract (but especially in an international agreement) is around the financials – ensuring you get paid or you get what you paid for. This puts overall payment terms and the related security provisions in the first two places – though they are missing completely from the ACC list.
Today, the regulatory environment is critical to any contract and its negotiation. Awareness of relevant regulation and appreciation of its consequences is a fundamental issue that your legal team must address, whether on competition law, data security, environment or the myriad of other local and global regulatory requirements. So I am placing this at number 3.
Closely tied to this is the whole issue of reputation risk and sustainability. Gone are the days when ‘out of sight, out of mind’ seemed to prevail for many negotiators. The networked world means that mistakes in international contracts quickly make global headlines. High performing lawyers are strongly focused on reputational issues and ensuring that the deal and the counter-party are ethical, that the business relationship is sustainable and that local customs or practices will not threaten integrity.
Competent lawyers also appreciate the challenges of speed, cost and communication when transacting internationally and consider ways to tackle these. On speed, IACCM data reveals a remarkable diversity in the cycle times required to close international business. Not only does it take on average roughly 50% more time than an equivalent domestic deal, but also top quartile performers operate roughly 4 times faster than those using the method of contracting implied in the ACC article. The smart lawyer understands that cycle times are sensitive and that failure to address this issue will damage their credibility and lead either to loss of business or to the rest of the organization working around them.
On cost, it is simply unaffordable to engage local counsel in every country or to have local in-house resources. Modern business is finding ways to address this, sometimes through use of low-cost LPOs, but more often through use of alternative dispute resolution. ADR has the effect not only of slashing the legal costs of deal-making, but it also typically cuts cycle times by more than 50%. By following this route, several of the ‘ten tips’ become redundant.
Communication is a challenging field for the jurisdictionally-trained lawyer. Especially for those from a Common Law background, they feel comfortable using specific terms and wordings which will often be alien to their counter-party. Of course it is always far easier to operate in our native language. But attempting to impose our methods and approach on an international trading partner, with limited effort to ensure common understanding to respect their way of doing things, is frequently a recipe for disaster. At best, they do not really understand what has been agreed; at worst, they view the process and the agreement as unbalanced and feel no real commitment towards it. Good contracts are increasingly designed as communication instruments, not as legal weapons.
The ACC list is interesting and certainly reflects items that should be considered by the parties. However, they focus primarily on the lawyer’s role in dealing with the consequences of failure (that old security blanket that makes us indispensable) and presume adversarial behaviours. If this reflects the aspiration of the average lawyer, it explains the challenge they face in establishing business relevance and value. In reality, top lawyers aim much higher; they want to provide legal advice in the context of business realities.
I have to thank an IACCM member for bringing this particular article to my attention. As a General Counsel, she also made the following generous observation: “It is certainly an interesting subject addressed by great experts. Their selected focus though is precisely the reason why I personally find IACCM so enriching for lawyers when compared to other corporate lawyers associations”.
It’s not only companies that impact the ‘ease of doing business’ – it is entire countries.
When it comes to negotiating or performing contracts, there are major international variations. It isn’t just the obvious differences such as language or the rule of law. Factors such as the depth of negotiating skills or insistence on performance bonds or guarantees are equally significant.
In a current survey, IACCM is assessing nine elements that directly impact ‘ease of doing business’ and comparing them across 50 countries. The effects are quickly evident. For example, nearly 40% of respondents highlight that they have turned down opportunities to do business in Nigeria because of perceived risk or difficulty.
Perception is often key in how organizations approach international business. For example, it impacts the way that negotiations are conducted. Many hold the view that the United States is risky because of its legal and regulatory system; this causes negotiators to approach the market in defensive mode and reinforces their focus on risk allocation within the contract.
If you have any experience of international contracts, the current survey can be accessed at https://www.surveymonkey.com/r/intcontracting2015. It takes only a few minutes to complete and results will be shared with all participants later this month.
I received a request from an IACCM member who is undertaking analysis of the potential savings if his large, international corporation replaces in-house lawyers with contract managers. Research in the US has apparently led to a number of $100 per hour – presumably fully accounted cost. His question is whether the potential for cost reductions is similar in Europe.
I thought that I would share my answer to see how others might react. I am sure there will be those who applaud the idea of cutting legal headcount, while many will doubtless suggest that such a move would represent grossly irresponsible risk-taking.
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Your question is really interesting and quite challenging to answer.
“In Europe – as increasingly in the US – there are many contract or commercial managers who are qualified attorneys, but not ‘of counsel’. In some instances, they may perform jobs of broad equivalence to the in-house counsel. In others, the thing that attracts them to the job is that their role is significantly broader – and hence a cost comparison may be rather misleading.
In other instances, the alternative to a lawyer may be a para-legal or even an unqualified individual who has been trained to perform many of the ‘lower-level’ legal tasks. This model can of course reduce per hour costs considerably.
A third model is where much of the legal and contract-related work is moved to an off-shore center, either captive or outsourced. This option will generally be the cheapest of all.
I think the point here is that there is wide variability between organizations in the role they perceive to be needed. By way of example, I attach recent benchmark data showing where contracts / commercial groups typically spend their time; you will see that this is a much wider remit than the typical law department. Indeed, to the extent there is a trend in Europe, it is towards the realization that legal skills and knowledge are only a component of contracting and that there needs to be a focus away from pure lawyers towards ‘commercial managers’ with a much wider understanding of deal economics, risks and value management.
Our research shows that companies with a dedicated contract / commercial function achieve significant headcount efficiencies – but only part of this is through reduced legal resources; they also drive significant efficiencies in the functions that otherwise have to prepare and manage key aspects of the contract (e.g. Statements of Work, Service Levels etc).
I suspect that the theoretical per hour savings of simply replacing in-house counsel with an equivalent ‘contract manager’ would typically be around $35 – $50 in Europe – and significantly more if the work is moved to a low-cost center. However, as indicated above, my concern is that this approach fails to ask what is the real business need and how to optimize the value achieved from contract management.
If there is interest in this wider question, IACCM has various tools to support analysis of the contracting process and extensive additional benchmarking data to indicate the business impacts of alternative models.”
Although the business environment is undergoing rapid change, the focus of term and condition negotiations seems to remain relatively constant. Is that because contracts offer a point of stability in an unstable world, or is it because those who lead negotiations are failing to adapt?
IACCM’s annual study of ‘most negotiated terms’ never fails to offer fascinating insights. Over the years, it has shown the effect of new regulation, of economic recession, of geopolitical insecurity, of shifts in technologies and business offerings. Yet it has also confirmed an underlying tendency for negotiators to focus on issues of risk consequence – and in so doing, to undermine the value that contracts can deliver.
Does this tendency suggest that most of today’s contract negotiators are pessimists, or that they see their role as protecting the business against the over-optimism or lack of precision within sales or business unit management? Certainly such an attitude has validity, but it also fails to tackle the real problems (or opportunities) that come from creative and collaborative contracting.
With today’s steady increase in executive interest and focus on contracting, are we seeing a shift in the timing and purpose of negotiations? Is this affecting the terms we negotiate? IACCM will value your opinion and experience – and also share with you the results of their global survey. You can participate by visiting https://www.surveymonkey.com/r/topterms2015
Organizations continue to disaggregate. The traditional ‘integrated enterprise’ has eroded and current thinking is that organizations are more agile, more efficient and more creative if they use external suppliers and contractors, rather than invest in large-scale ‘owned’ resources.
We know this change is happening because the data shows increasing volumes of purchasing spend. Indeed, data from Proxima (a consultancy) has suggested that almost 70% of the average company’s revenue is now expended on external suppliers.
But are the assumed benefits occurring? It is hard to find data that answers this question. Traditional procurement measures focus on negotiated savings, rather than broader business benefits of cost over time, impacts on efficiency, speed or value. There is growing realization that disaggregation does not mean abandoning responsibility: in other words, you can eliminate resources, but you still have to engage and manage your new source of supply.
This pattern of change is leading to rather more fundamental impacts on business thinking. Management is awakening to the need for increased collaboration with its ‘outsourced’ resources. Relationships that are based solely on measures of input cost and compliance may appeal to the Finance department, but do not create a high-performing organization. This means also that greater care must be taken in the selection of suppliers and in the subsequent management of interactions. Hence we are seeing new measures introduced – often more qualitative in nature – and a major focus on broader skills of relationship management and contract management.
The implications of this change are significant. For one thing, it transforms traditional thinking that ‘contracting’ and ‘relationship management’ are separate activities. Increasingly, they are integrated and interdependent. Secondly, it also challenges the old view that contracts and relationships are a sub-element of procurement or sourcing. Today, contract and relationship management are the life-cycle activities which generate value; procurement and sourcing are sub-elements of them.
In the background, we see a growing amount of data illustrating the need for – and consequences of – change. But as a recent study from Vantage Partners shows, there is still a long way to go. Their survey of supplier relationship management (SRM) shows that almost two-thirds of participants don’t know how to measure the value achieved from their SRM investments. Over half indicate that their organization needs to execute a ‘major change of attitude’ if it is to generate greater value from its supply relationships.
For those who are interested in SRM, there is another major study currently underway. State of Flux is undertaking its annual survey, probably the most comprehensive in the industry. It can be reviewed and completed at https://www.surveymonkey.com/s/state-of-flux-2015-srm-survey
‘Collaboration’ is a big theme for management in many organizations. There are many factors at play in driving this direction. One is growing interdependency between organizations. Another is the trend away from product purchases to an increasing volume of services and solutions (or ‘indirect spend’ in procurement terms. Then there is concern over reputational risk, which makes the quality of relationships far more important. And finally we have innovation and the recognition that this is more likely to occur in a collaborative relationship.
I spent some time this week reviewing the state of collaborative working and it is clear that most organizations face a significant gulf between aspiration and reality. They seem to fall into two camps:
- There are some who focus on developing internal mechanisms and measurement systems to encourage greater cooperation with their suppliers or customers, but fail to translate these into revised approaches to contracting. The policies and practices that underlie terms and conditions (and the way they are negotiated) show little sign of alteration. While this does not necessarily destroy the possibility of collaboration, it certainly makes it harder.
- There are others who believe that they can change organizational behavior simply by introducing new forms of contract. Not only does this not work, it actually increases frustration and risk.
Another important disconnect is that many programs designed to deliver more collaborative relationships fail to consider the extent to which most suppliers now operate within an interdependent network. If that network is not operating collaboratively, all the aspirations will be undermined.
What can we do to address these disconnects? Common wisdom is that the contract is an output and comes at the end of process and organizational design. I suggest that the opposite is the case – the contract should come first. A thorough assessment of goals and markets leads to an understanding of the characteristics that surround collaboration – for example, commitments to communicate, share data, develop joint systems, agree mutually acceptable payment terms, acceptance provisions, responsibilities, security etc. The contract can be used as a method of assessing the extent of disconnect between collaboration characteristics and collaboration capabilities. This understanding is then used to drive internal reengineering to ensure alignment between ‘the market’, ‘the contract terms’ and ‘the ability to collaborate’.
It is often thought that unethical behavior is driven by the profit motive and is therefore largely the result of sales practices. However, might it not be that it is aggressive cost controls that undermine ethics?
From an industry perspective, the retail sector frequently takes the spotlight for its trading practices. Unrelenting price competition translates into regular mistreatment of the supply base – withheld payment, onerous claw-backs and, until recently, unprincipled labor practices appear endemic to consumer-facing companies.
IACCM’s recent study of payment terms discovered almost 20% of large corporations operate with payment terms of 90 days or more and most of these are in the consumer / commodity sector. The smaller the supplier, the harder it is to get paid. It seems that muscles count when it comes to fair or ethical treatment.
Many sales negotiators complain about the lack of balance in buyer attitudes. A failure to consider value, or to question the longer-term impact of their actions. seems to impact the procurement agenda. But of course, those buyers are only responding to the demands of senior management, especially the CFO.
For years, procurement groups have been encouraged to commoditize every purchase. They try to unbundle supply proposals in order to drive the lowest price. They also work to allocate maximum risk onto the supplier and to minimize their own commitments. Such attitudes rapidly lead to questionable ethical standards – and a by-product is often that the supplier also cuts corners or drives similar practices into their supply base.
So at a time when procurement is pushing issues of sustainability and compliance, it should perhaps also consider the extent to which its own actions may reflect the very behaviors that it is seeking to eliminate.
Success is defined as an accomplishment, or the meeting of an aim or objective. In a recent article, Jonathan Cooper-Bagnall of Proxima Group challenges Procurement to re-think its measures of success. He might have posed the same challenge to all those involved with forming or managing trading relationships.
To quote from Jonathan’s observations: “A study by Oxford Economics highlighted the significant disconnect between the measures for success (of executives versus Procurement practitioners). The survey of 500 C-suite executives and 500 procurement employees across the world showed that 72% of C-suite executives ranked cost savings and cost avoidance as their primary measure for procurement success. Inventory turnover was second with 50% and supplier performance came in just below that at 49%. Procurement practitioners however, have different priorities according to the results of the study. Around 56% of practitioners ranked touchless transactions as their premier performance indicator. Cost savings and order cycle time tied for second, with 52%.”
Based on this, Jonathan rightly highlights a growing disconnect between executive expectations and the value that Procurement delivers. He suggests that management is increasingly concerned about the damage to brand and reputation that results from high-profile supplier failures to perform. While I agree with his conclusion, it does not seem to me that it is supported by the Oxford Economics findings – and it is miles away from the direction that most Procurement groups appear to be taking. Again, however, I must observe that the problem of defining and measuring success is common to most commercial groups – buy and sell.
My perspective is that executives are indeed concerned about business performance in terms of revenue, profit, brand and reputation. Each of these items is a measurable outcome. In itself, none of the measures mentioned by Oxford Economics is an outcome – they are inputs which may or may not lead to a positive outcome.
And that is the core problem with the measurements used by Procurement, Legal and contracts / commercial staff. They have no real insight as to whether their actions in selecting suppliers, drafting or negotiating terms or managing contracts actually drive better business outcomes. They contribute to a process, they do not oversee or manage it. So Jonathan is right to call for change – but I suggest that cost savings and cost avoidance are ‘success indicators’ that have been tried, tested – and failed.
With each passing day, the need for new commercial capabilities becomes more evident – and to support this, commercial groups must change.
Gone are the days when business to business relationships were marked with adversarialism and contention. The narrow views typified by sales and procurement (to a high degree) and legal (to a significant degree) are destroying value. Trading parties must increasingly cooperate to deliver efficient and effective results.
Adversarial and arm’s length behavior carries a tremendous cost. It frequently results in selection of the wrong supplier or confusion over requirements. It prevents proper definition of scope or goals and the creation of effective performance measures or governance techniques. This results not only in expensive claims, disputes and changes, but it adds enormously to operating costs through inefficient use and deployment of resources.
At this week’s IACCM Europe conference, sales guru Neil Rackham acknowledged how the world of selling must alter, with the need for a new ‘commercial’ breed of relationship managers and developers – people who can sit with their client as a partner, mutually committed to developing workable business solutions.
But who will this ‘commercial expert’ sit with? Certainly not old-school procurement, with its continued focus on savings. Unless procurement also recognizes the importance of shifting away from its focus on control, compliance, categories and process. it will rapidly become irrelevant. While the associations representing procurement are increasingly talking about change, they seem unable to define what that really means and to assist their members in making the transformation needed.
The IACCM Europe conference felt to me like a true turning point for those who have embraced the future of commercial excellence. It is an exciting and energizing time – only too evident in the enthusiasm – indeed the passion – of those who attended. Watching professionals from both buy-side and sell-side embracing the need for a new collaborative spirit was uplifting. For these people, the next few years hold true challenge, but also great excitement.
This week’s IACCM Europe forum brings together more than 200 senior managers from across industry and the public sector. They are exploring and discussing the theme ‘2015 – the year of Commercial Excellence’.
There is wide agreement about the pressures facing business and the need for rapid and substantial change. Indeed, during one of the executive workshops, Jonathan Cooper-Bagnall, from Proxima Group, made the observation that many business functions had spent 10 or more years undergoing reengineering. Similar fundamental shifts were now being demanded of commercial teams (contract management, legal and parts of procurement), yet in a much shorter time period of perhaps 2 or 3 years. This creates massive challenges, especially with regard to the development of skills.
Jonathan’s point reflects the sense of challenge at the conference. Many delegates recognize the nature of the commercially transformational pressures in their markets, but are struggling to shift from current roles, tasks and behaviors. As a result, they are overwhelmed by the workload that results form change, yet lacking the people or tools to adapt. Commercial processes, policies, practices and systems (to the extent systems exist) often pull in a direction opposite to that of the market. This means that existing commercial resources can be seen as the enemies of change, resisting the needs of the business.
This conference is therefore very much about how to deal with the change agenda, how to start making the rapid shifts that are necessary. It focuses on issues such as the almost universal shift to performance and outcome-based agreements, to new payment models, to a role of business enabling rather than business review, to a need to segment market and relationship types rather than deal with transactions and individual deviations. It places commercial teams in a role as leaders and instigators of change, rather than a force focused on compliance. Risk management becomes far more holistic and an innate element of practice, rather than today’s rather selective and inefficient approach to selective risk avoidance. Overall, Commercial Excellence sits right at the hear of the business. This year’s event is helping commercial teams to fill the current vacuum and take ownership of their destiny – in a time-frame that is dramatically faster than that experienced by any other business function.
Commitment Matters 