At CorGuv we specialise in Forensic Contract Audits and Contract Compliance. We have the results of scores of audits at our finger tips and have seen much value leakage and a general reduction in the quality of Contract Management over the last 30 years. In our blog/articles, we have argued that poor Contract Management is costing companies a huge amount of money. This article is part of a series: The other ones are readable on this blog.
This article introduces our experience of practical implementation of beneficial Contract Management regimes that can provide a return on investment of 500+%.
Our last article “What is Contract Management?” ended with a definition of Contract Management as follows:
Contract management is the management of contractual agreements made with customers, vendors, employees, and other third parties for the purpose of maximising financial and operational performance, and minimising risk and cost. Towards this objective, it should co-ordinate business leaders, operational departments, accounts payable, contract advisors, internal controls, as well as clients, partners, subcontractors, suppliers.
A bit wordy, perhaps, but a good start.
We divided Contract Management into Operational & Commercial Management. There is a tension between these two that tends towards commercial matters becoming neglected or ignored. This article therefore focuses on how to improve commercial management. We will use the term Contract Compliance to differentiate commercial from operational matters. This does not mean that operational management is unimportant but it needs supplementing to reduce value leakage.
So how can we implement Contract Compliance cost-effectively? Well, first it is important to understand some underlying principles . . . . . .
Principles of Contract Compliance
- Accountability – Accountability for Contract Management, as whole, lies with the Contract Representative (usually the operational department responsible for the scope of work). However, they will need support on commercial matters.
- Independence –Time pressure on busy operational staff pushes them towards neglecting commercial management in the interest of ‘getting things done’. There may also be other powerful interests in many organisations as well, which may wish to avoid scrutiny. These may include Contracts, Procurement, & Finance functions, not to mention the Suppliers themselves. Once the potential for fraudulent behaviour is thrown into the mix, it is easy to see how important it is that scrutiny of commercial matters must be independent.
- Commercial Focus – A key skill must be the commercial side of contracts. The lack of this is the root cause of much value leakage. However, this is not to say that operational performance is not important but, in most organisations, this is already done adequately, if not perfectly.
- Internal Control & Future Improvement – A key aspect of the role is to detect value leakage and improve this immediately and sustainably. Usually this is achieved through improving internal control and commercial discipline. The ability to bring operational management together with other functions to achieve this is a key part of the Contract Compliance role.
- Reality, not Expectation – The role is to uncover what is actually happening in live contracts. This is sacrosanct: Expectations, imagination, wish lists or cultural blindness or lack of time do not come into it. Reality, however inconvenient, is key in driving recoveries and improvements.
Before talking about resource and organisation, it is important to understand the benefits of performing Contract Compliance well.
This is best demonstrated by a simple example. We recently performed a 6-month trial of a two person Contract Compliance cell in a client organisation. The job was to check invoices as they were received and stop them being paid if they were not compliant with the supply contract. In one case (a 5 year contract on which £35 million had been spent), not one of the 40 invoices issued each month had a single rate which could be related to the contract. That meant that around 2000 invoices had never been validated against the contract. In two weeks, we had recovered £200,000 at a cost of £10,000 of our time. In addition, work had begun on redesigning the invoice structure so they could be checked properly in future (in itself an even more significant saving). In all, that cell recovered £500,000 during the 6 months trial at a cost of a fifth of that amount.
We have implemented permanent Contract Compliance cells in other organisations where two to four skilled practitioners regularly recover £ millions every year.
The business of permanently improving internal control and commercial discipline in future has 5 to 10 times the benefit of the cash recovered although, of course, it is not so obvious as credit entries in the ledger!
Like any role, Contract Management requires skill and resource. Therefore organisations shy away from implementing it (or remove it when times get hard) because of the cost. However, the cash benefits are so much greater than the costs, it is vital to think of it as an investment.
Resources & Implementation
There is a big psychological problem. Many organisations believe that they are performing Contract Compliance well and there can be resistance to the principle of Reality. It is so difficult to accept that something, which you imagine works well is, in practice, failing badly. There is usually resistance to its introduction and yet, without it, value will continue to leak away.
Here are some key actors to think about when implementing Contract Compliance:
- Role not person – Contract Compliance is not a person; it is a role. It can be implemented centrally and does not, necessarily, require a full-time dedicated person per contract. In fact, because of the independence requirement, it should be organised centrally.
- Long Term – Contract Compliance’s aims should include the continued improvement of internal control, commercial management and discipline. This is an on-going function, not a flash-in-the-pan.
- Prioritisation & Scalability – This allows for the spreading of resources over time. The most complex and costly contracts can be done first, leaving others until later. The team can be built up as benefits are realised and confidence is gained.
- Attitude & Skills – Contract Compliance is not for the faint hearted. It requires analytical commercial skills, a dedication to uncovering the truth in complex situations, a nose for inconsistency, the use of data analytical tools, and the stamina to pursue issues against resistance. The technical skills can be learnt by the right kind of person, but the wrong person will never learn to do it well. Leadership of the function is therefore critical . . . . . . .
- Leadership – The head of the contract function needs to be skilled in commercial contact management and have experience of Internal Control and Change Management. In addition, he needs to be able to get on with a wide range of people and be sensitive to operational issues. He must also be good at sourcing the right team. People skills are therefore essential, as the job is about co-ordination and culture change.
So what does a typical Contract Compliance cell look like? It is difficult to be too prescriptive because it will depend on the organisation, which is why we have stuck to the principles, above. However, here is an example of the essential elements in a typical large company:
A Managing Director/Board that understands and supports the role of Contract Compliance and are prepared to support it against internal resistance and supplier self-interest.
A Contract Compliance Co-ordinator, often combined with the role senior Internal Control function; he reports direct to the Board/Managing Director.
He is supported by a Contract Compliance team who are checking invoices, and stopping them being paid if they do not comply with contracts in any way. This is critical for effectiveness – problems are resolved quickly under the pressure of receiving payment. This saves months of wrangling.
This will cost around £200,000 per annum and recover several £ millions. So why not try it? You don’t have to commit now – CorGuv will do a trial, if required, we know how to make it work.