This is the second article in a four-part series that seeks to
provide organizations with useful checklists to key components of
outsourcing arrangements. We previously discussed ways that
organizations can protect themselves at the end of an outsourcing
through termination and repatriation terms and conditions. In this
article, we explore ways organizations can contractually guard
against unanticipated fee increases and additional costs.
Oftentimes, one of the key rationales for outsourcing is cost
savings; however, those cost savings will be eroded if the customer
ends up paying additional or unexpected charges during the
outsourcing relationship. This can occur when the customer requires
a service that was not previously contemplated or when there is a
misunderstanding between the parties over the services to be
provided or the fees payable for those services.
Below are measures that customers might take in the outsourcing
agreement to reduce the chances for misunderstandings and avoid
expensive surprises down the line.
Clearly state the service description and specifications. A
well-articulated set of service descriptions and specifications
helps to ensure that the parties are in full agreement with the
deal being struck. Have people who are reasonably knowledgeable in
the subject matter, but not involved in the day-to-day operations,
read the service description and specifications. Do they have
questions or difficulty understanding those items? If so, then down
the line, it's likely that a dispute will arise over whether
the existing fee arrangements include that service. Refine the
services description and specifications until it's clear what
you're paying for. To the extent applicable, it is also
important to ensure that the service includes all hardware,
software, systems, and people resources used by the service
provider to provide the services, or required for your organization
to receive the services.
Create a transparent change order process and specify what will
constitute a change. In addition to having a well-thought-out
change-order process that meets your organization's
requirements, specify up front who is responsible for the cost of
making certain changes. This will help manage the costs of scope
creep. For example, does the agreement indicate who is responsible
for the cost of:
regulatory changes impacting the business of the service
changes that also benefit the service provider's other
changes relating to services that are inherently provided as
part of the service provider's day-to-day operations?
Build in pricing for new services. In certain circumstances, it
may be possible to negotiate pricing protection for new services
with the service provider. For example, you may be receiving volume
discounts for other services under the outsourcing agreement. If
so, does the agreement indicate that those discounts will also be
applied to new services?
Ensure any termination fee is clear and calculable. Negotiating
the right to walk away from a deal during the term for a fee can
provide an organization with the flexibility to change directions,
when dictated by the market or when the relationship with the
service provider no longer works. To walk away, the organization
must have a clear idea of the fee that would be payable. Is that
fee specified and how is it calculated (e.g., an actual
dollar amount, a percentage of remaining fees payable, or a
combination of the foregoing)? It is clear that the organization
does not have to pay any forgone profits or revenues of the service
provider? Not being clear about the amount of the termination fee
could mean that the organization will not be realizing the savings
that it wanted to realize at the start of the deal, assuming that
such fees have been built into the organizations business case for
The above checklist is by no means a comprehensive list of
approaches to guard against fee increases. Other price-protection
tools to consider include most favoured customer provisions,
benchmarking rights, and currency or foreign exchange protection
(particularly in offshore deals). Similar to a service
provider's concern of revenue recognition, customers should be
equally concerned with ensuring that their original business case
holds true for the term of the relationship.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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On March 11, 2009, the Office of the Superintendent of Financial
Institutions of Canada (OSFI) released a revised version of Guideline B-10, Outsourcing of Business Activities, Functions and Processes.
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