Why Should Enterprises Manage their Contracts Closely?




A couple of months ago, Technology Evaluation Centers (TEC) published two articles entitled Thou Shalt Manage (and Cherish) Thy (Best) Suppliers and The Hidden Gems of the Enterprise Application Space highlighting the importance of contract lifecycle management (CLM) in an enterprise’s spend management and its supplier relationship management (SRM). Indeed, contracts are the pivot of a company's dealings with its trading partners.

Buyers and suppliers (and their legal counsels) can spend an inordinate amount of time ironing out details about mutually agreeable contractual obligations and remuneration, incentives, and contingencies. For companies handling dozens (and even hundreds) of contracts, ensuring that trading partners adhere to contract details is often too cumbersome to be executed without enabling technology. In other words, manual methods are inconsistent and unreliable in handling interdependent terms and conditions and pricing discounts based on volume, supplier performance, and other metrics. In addition, contracts are available that handle nondisclosure agreements (NDAs) and intellectual property (IP) confidentiality rights, rather than financial transactions (for goods and services trade) per se.

 

Importance of CLM Software
Many enterprises do not have formal information technology (IT) systems and processes in place to manage contracts, often precluding financial, legal, sales, and/or purchasing executives and staff from gaining visibility into the enterprise’s contracts, as these are filed in multiple different electronic storage systems or, even worse, as hardly accessible and retrievable hard copies. Companies need contract management solutions to access those repositories to help managers gain a holistic understanding of the trade agreements under which the enterprise operates. The lack of visibility and control will often translate into an enterprise failing to extract full value from a contract and its relationship with suppliers, distributors, and customers.

At best, users of the solution appear to be increasingly able to track contract expiration dates, which is only a minor part of the total contract management requirements and potential benefits of such a solution. In addition to standardizing contract language, payment terms, and other requirements into simple terms, users can gain efficiencies through analysis of all contracts to discern trends and identify weaknesses in the process. Understanding the real quantitative and qualitative requirements of trading partners and their ability to meet the parameters outlined in the contract is critical to ensuring a mutual-value relationship. The total dollar value relative to the revenue, profit margin, and overall supply chain ecosystem costs, should be highlighted, assessed, and tied to strategic business goals.

Therefore, companies are increasingly realizing the need to take control of their contracts via specialized software tools so as to never again miss an important deadline and reduce their risk to exposure. For example, sell-side organizations can miss contract renewal dates and accompanying guaranteed revenues, while buy-side organizations may not use all contracted items’ clauses, thus allowing automated price increases to be unjustifiably imposed upon them.

 

What Might Work Instead?
Enterprise search capabilities and analytics comprise the most frequently used tools to ensure compliance with trading partner agreements, and to audit and review trading partner relationships. Germane key performance indicators (KPIs) offer an objective way to assess contract compliance and supplier performance directly from contracts. The enterprise’s goal is to visually and intuitively understand, say, when and where certain suppliers are about to fail to provide the important items and services to which they have agreed, or when and where they have failed to deliver.

Moreover, dashboards and alerts can be tailored for more visibility based on quantitative and qualitative requirements, such as volume, order lead time, and inventory requirements. For example, from their role-based dashboards, purchasing managers can explore the details of the contract to gain a comprehensive view of the company’s relationship with the supplier. They can drill down to the spend transaction detail, and thus review the discrete transactions comprising the company’s spend. For their part, procurement clerks may wish to drill into a contract’s spend to get insight into the company’s relationship progress with its supplier, such as how much has been spent with this supplier to date vis-à-vis the contract.

Needless to say, companies need visibility at each step of the contract process, progress, and revisions, and in remaining steps that must be fulfilled. Thus, collaboration and workflow are often terms related to contracts. They refer to the ability of contract personnel to track revisions, ideas, comments, and alternatives for clauses and terms. An astute CLM system can automatically route a contract for approval based on a number of criteria, including dollar value, type of commodity, type of contract, date ranges, and codes for specific cost centers.

To be successful in enterprise CLM, companies need functionality to support both buy-side and sell-side types of contracts. There is immense value in having one solution cater to all departments within an enterprise due to a lower total cost of ownership (TCO), lower audit costs, fewer systems to maintain, reduced training costs, etc.

 

Contract Lifecycle Steps
Experts have defined the steps typical to a contract lifecycle in various ways. I concur with AMR Research’s 2009 report entitled “Contract Lifecycle Management Landscape: Why CLM Technologies Need To Be Part of Your Supply Chain,” where three former AMR Research (now Gartner) analysts stipulate that the typical CLM process has the following five steps:

  1. Contract authoring and creation—Contracts typically contain trading partner information, contract value, contract time period, and specific terms and conditions that must be met by the trading partner, addenda, approval signatures, and date of signatures.
  2. Contract negotiation and revision—This phase is where contract terms are negotiated, reworded, and changed by one or both parties and their legal and finance departments.
  3. Contract approval—This step includes approvals for clauses, quantitative amounts, such as total dollar value and total items contracted, and terms and conditions by each trading partner and its organization. The approving authority might be the organization’s chief executive officer (CEO), chief financial officer (CFO), legal counsel, chief procurement officer (CPO), or representative.
  4. Signature—At this point, the final agreement between two parties becomes definitive. When both identifying parties have signed the contract, the contract is considered complete and active for its duration.
  5. Contract archiving—This final step is one that immature companies take for granted, often just filing the contract away for future record. More advanced companies use indexable and retrievable information for compliance and value analysis.

 

Mishmash of Makeshift CLM Tools Still Used Sub-optimally
As in many other areas of business and related software categories, some companies have implemented basic contract management systems using widely available (and thus luring) office productivity and document management technology. For example, many have built basic contract workflow and archiving capabilities using ubiquitous Microsoft products, such as Office Suite, SQL Server, and SharePoint. Others have built contract archiving systems using Microsoft Office Suite and EMC’s Documentum enterprise content management (ECM) suite as a repository.

Other organizations might use Open Text, Oracle’s Universal Content Manager (UCM, formerly Stellent), or IBM’s FileNet for document management, with some custom CLM capabilities made in-house, such as for authoring, revision control, and digital signatures. Incidentally, many organizations use digital (electronic) signature capabilities from EchoSign and DocuSign, with integration into their workflow and document management systems for approval processes, including contract approvals.

 

What About Using ERP for CLM Needs?
While it is possible to manage contracts with an enterprise resource planning (ERP) solution, in theory, the choice is not optimal or even desirable. Contract management modules (often part of procurement modules) offered by ERP vendors typically allow for storage of contracts, record keeping of simple changes, and facilitation of payment requirements. Most ERP providers offering contract management simply cannot handle complex contract (with many intricate clauses) and workflow situations, which could expose an organization to risks in the face of rising corporate governance, risk management, and compliance (GRC) requirements.

Organizations must, on a daily basis, handle contracts that dictate from where revenue is coming in and expense payments are going out in order to accurately perform financial forecasting. Many ERP systems, particularly the lower-tier ones, may not be capable of matching these items to contract terms and prices (within different sections and clauses). The result is that companies could be paying more or getting less than what has been stipulated in the contract. Again, such shortcomings of ERP as a makeshift CLM solution could expose an organization to unnecessary financial and legal risks.

In general, ERP systems handle transactional details of an organization, whereas CLM systems handle contract and commitment management. Thus, there is often room for both systems in an organization. Not surprisingly, the CLM arena is replete with a number of best-of-breed solution providers. Ariba, Emptoris, iMANY, Hyland Software, Selectica, SAP, Oracle, Lawson Software, Zycus, Symfact AG, PROACTIS, Upside Software, and others have competitive CLM offerings. Look for future articles from TEC that dig deeper into some of these offerings.

 

 
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