Connection between Contract Management, Risk mitigation & Cost reduction

Today, almost 75% of the procurement globally is based on contracts/agreements with their life term ranging from 6 months to 10-15 years. Once the procurement contract is established with the vendor, purchase orders are created and released as the need arises for product/services during the year with some exceptions in the process when purchase orders are not created owing to confidentiality/strategic reasons. Process of ‘goods/services receipt’ and ‘payment making’ follows as per contractual terms. Timely monitoring of performance of vendors based on quality/cost/delivery time/service support to leverage the best amongst available opportunities forms the next step in contract management.

Due to involvement of numeral complexities and given their long term/inherent nature, contracts expose organizations to multi level risks. Ever surging complexities, regulatory requirements, involvement of huge sums and many other business requirements( cost reduction/vendor alliances/responsiveness etc.) make activities ;negotiations (multi level), collaborative authoring from business stakeholders, procurement experts, and legal professionals, multiple approvals, adherence to compliances and monitoring vendor’s performances ; critical and all the more important in a growing organizations. Now challenge remains in executing these activities to have an efficient and effective contract management system. Current systems used are manual and lack integration in above mentioned activities and thereby poses a risk to supply chain of any organization.    

    

Functional requirements:

·         Reduction in ‘Time to contract’

·         Efficient tracking/monitoring of vendor’s performance

·         Proper governance and efficient /effective version management

·         Spend visibility

·         Security of confidential contracts/documents

·         Collaboration and high user adaption among key stakeholders

·         Adherence to regulations and compliances

·         Lesser risks and thereby disputes through greater transparency

·         Better business relationships

·         Effective financial management

System requirements:

Above mentioned functional requirements can be achieved through a contract management application which will help in:

·         Contracts standardization

·         Flexible work flow expediting necessary approvals

·         Streamlined amendment process

·         Central Contract repository providing full visibility

·         Integrated and automated system to track vendor’s performance vis-à-vis contractual terms

·         Parallel Negotiation of Commercial & legal terms reducing redlining & cycle time

·         Compliance tracking

·         Reduced manual processes and contract administration workload

·         Automate standard processes

·         Involves business partners (Interactive management)

·         Shorten Contracting Cycle (Time consumed in establishing  a contract and administrative activities during the life span of a contract)

Listed below are the benefits, financial as well as process centric that any organization will gain after the implementation of Contract management module.

#	ROI Potential	Potential benefits in first year itself *
1	Streamlined operations (faster processing, headcount reduction)	75-100%
2	Performance Management	10-30%
3	Risk mitigation	40-50%
4	Improved financial management	50-75%
	Total potential benefit in first year	175-255%

Burlinton Northern and Santa Fe Railway Company (BSNF), Interpolis Verzekeringen and Hewlett-Packard (HP) have reaped benefits on similar lines and have reached break even within 6 months time.

Detailed Justification of factors contributing to ROI

1)    Streamlined Operations

o   Reduced time to create and administer contracts: Time and effort to track and administer contracts can be greatly reduced. Standard templates and clauses based on requirement can be utilized. Auto reminders based on expiry date can also be set.

o   Improve process efficiency throughout the contract life-cycle: Optimizing processes related to creating business contracts

o   Reduce manual processes and contract administration workload: Manual intervention reduces directly impacting work load on buyers

o   Streamlined amendment process

o   Consolidate contract databases/repositories: Contract administrators can access the complete record of purchase documents and interactions related to a contract. They can also tracks deliverables and drill into all relevant documents

o   Leverage standard templates

o   Eliminate duplicate entry

o   Eliminate ‘shadow’ systems and tracking mechanisms: Excel sheets and other mechanisms being used can totally be eliminated

o   Support unique processes in different business units: Standardization across regions

o   Improve reporting: Accuracy improved and MIS reporting time reduces

2)    Performance Management

o   Identify and ensure delivery of contract benefits: Tracking deliverables timelines/quality/quantity including completion of services

o   Monitor and manage compliance and performance: Performance metrics may be designed based on actual and forecasted deliverables

o   Penalty clauses clarity and accountability: Based on vendor performance and user’s remarks penalty clauses can be focused

3)    Risk Mitigation

o   Identify and manage risks: Allows users  to monitor the factors when it exceed a threshold ex. dollar value

o   Ensure proper controls of standard templates: Automatically insert a  required approval whenever specified template text has been altered

o   Provide audit trails: Any contract modification, review approval, rejections, renewals including  who and when information is tracked

o   Ensure strong security: Read only, update, delete etc rights may be used

o   Enforce policies: Workflow processes as per rules/policies

o   Monitor compliance of contracted parties: Ensures notifications are automatically sent out in a timely manner and identifies when compliance items represent a risk

o   Identify and manage sensitive contracts:  Special business rules can be applied based on sensitivity ex. high spend contract, high profile contract

4)    Improved Financial Management

o   Eliminate renewal of contracts for unwanted goods and services: Visibility enhancement can help in removing “unwanted contracts”

o   Improve financial tracking of contract-based transactions

o   Identify and prevent overcharges: Transparency and close vigil can prevent overcharges across the system on contract based payments

o   Realistic picture of forecasts and budgets relating to expenditures

o   Improved cash flow projections

PricewaterhouseCoopers:  Companies could realize savings that equate to 2% of total annual costs by eliminating inaccuracies and noncompliance through contract automation.  Therefore, a company spending $1 billion could save $20 million annually

Goldman Sachs: A typical Fortune 1000 organization has between 20,000 and 40,000 contracts and spends as much as 100 basis points of their revenue to manage buy-side contracts, and 25 basis points of their revenue to manage sell-side contracts. They estimate that these enterprises could experience a potential reduction of 40 basis points in hard and soft costs by using contract management software. Contract automation could accelerate negotiation cycles by 50 percent; reduce erroneous payments by 75 to 90 percent, cut operating and processing costs associated with managing contracts by 10 to 30 percent, and result in a 10 to 20 percent headcount reduction.

Aberdeen Group:   Ineffective control and management of supplier contracts cost businesses    $153 billion per year in missed savings opportunities.