As soon as an organization enters into contracts, each one of those specific contracts requires specific actions. This is a form of contract management. So, it is not a question of whether or not organizations need to use contract management but how they can execute the already existing contract management more effectively and efficiently. Applying CATS CM results in effective and efficient contract management through optimizing realizing of the contract objectives, minimizing possible contract risks, achieving costs savings and avoiding unnecessary costs. This chapter explains the correlation between organizational goals and contract objectives, and the elements of effective and efficient contract management.
■ 1.1 ORGANIZATIONAL GOALS AND CONTRACTS
Every organization has a mission and vision that determine its organizational goals. To realize those goals, the organization establishes a strategy that also takes laws and other regulations into account. Based on this strategy, the organization describes its goals for the short, medium and long term. When the organization enters into a contract with another party to realize its own organizational goals, these goals will also determine the contract objectives. The contract will describe how the objectives, for which the contract has been set up, are to be translated into performance. This performance can involve the delivery of both products and services. Figure 1.1 diagrams the relationship between organizational goals, contract objectives, and contract performance.
Every client uses suppliers, and therefore contracts, to carry out its activities to a lesser or greater extent, in order to realize its goals. Suppliers make choices when it comes to the products and services they offer and the markets in which they want to operate. Since the 1990s, the percentage of ‘contributions from suppliers’ relative to overall operations has been increasing significantly. Studies indicating that more than 70 percent of the total costs incurred by organizations can be attributed to the purchase or procurement of goods and services only confirm this. One of the main indicators that procurement has become even more important is the fact that Management Boards of both large and small organizations are choosing to appoint a Chief Procurement Officer (CPO), so that a solid embedding in the financial column is becoming the norm rather than the exception.
Figure 1.1 The relationship between organizational goals, contract objectives and contract performance
■ 1.2 EFFECTIVENESS OF CONTRACT MANAGEMENT WITH CATS CM
As described above, contract objectives are derived from the organizational goals. Such a relationship can still be a perfect match at the time the contract is finalized, but this balance may shift over time. The organizational goals may change and, partly influenced by the rapidly changing environment, the way contracts are executed is also in constant flux. Relationships between contractual parties can change, the required technical solution may already have been outstripped by the market, and contracted volumes may no longer meet the need.
Effective contract management ensures that the contract realizes the intention, for the correct compensation, with acceptable risks, and with the efforts planned by the organization. Whenever an organization’s needs change, effective contract management ensures that these changed needs lead to changes in the contract. The effects of good contract management contribute to achieving the contract objectives, the best possible relationship between contractual performance and contract value, as well as to savings and avoiding costs incurred by the organization in executing the contracts. The more contracts, and the more complex they are, the bigger the advantages of contract management.
1.2.1. Improved realization of contract objectives
The contract objectives describe what the organization wants to realize with the contract, and this applies to both purchaser and seller. Contract management following the CATS CM methodology is primarily focused on contract objectives and so it contributes substantially to achieving them. Sometimes, this contribution can be directly demonstrated in monetary terms, but there may also be a qualitative contribution.
A unique category of contract objectives are those related to compliance, meaning that the organization complies with laws and regulations. This is something every organization has to deal with. Even though there are many different areas in which laws and regulations are applied, there are some elements that apply to a broad range of laws and regulations to which good contract management contributes:
■ Adequate documentation is very important.
■ An organization is held responsible for structuring and implementing a quality system that guarantees compliance with laws and regulations.
■ The compliance control measures carried out by the organization must be defined and their execution and conclusions must be visibly documented.
■ Non-compliance has severe consequences (financial, reputation, continuity).
Considering these elements in advance, while the contract is being drafted, ensures that there is adequate focus on the completeness of the documentation, the control measures that must be implemented, and the assessment of these measures as soon as the contract comes into effect. This is even more applicable when some of the documentation or control measures have been outsourced as part of the contract.
Due to the abovementioned reasons, compliance officers and internal audit department staff are increasingly promoting contract management implementation.
1.2.2. Relationship between performance and contract value
The contract value is the sum of the client’s budgeted expenditure based on the contract with the supplier. The contract value reflects the compensation for the deliverables. The supplier benefits from a higher compensation while a lower compensation is a financial advantage for the client. This might lead to the assumption that a supplier focuses exclusively on achieving the highest possible contract value and the client the lowest. However, things are not that simple. For suppliers who invoice their budgeted sales to the penny and achieve exactly the expected return, contract management does not seem to have gained them anything on paper. However, without proactive contract management, they might not have achieved the expected return. For the supplier, contract management can have a substantial impact in terms of client satisfaction, more efficient use of internal resources, or the opportunity to try new innovations.
A client who pays the agreed amount to the supplier while, at the same time receiving a modified service that still meets the changing user needs, does not save on expenses but will have a more satisfied organization. If this same level of satisfaction would have been achieved without contract management, the client might have had to pay for additional work. In that case, we are not talking about cost savings but about cost avoidance.
1.2.3. The organization’s contract costs
The contract will cost the supplier more than just the cost price of the products and services provided. Other costs that may have to be included are costs for making the proposal, contract management, quality control on delivery, and storage. It goes without saying that suppliers are very much aware of the fact that the contracted delivery costs more than just the people and resources involved, and that this must be included in the cost price calculation on which the quoted price is based. Suppliers understand this concept very well. We now see that clients are also becoming increasingly aware of this. The costs incurred by a client for entering into and performing a contract include more than just the amounts payable to the supplier. Such costs can include activities related to the procurement department, legal advisers, contract management, quality controls on receipt, and the financial department.