Value is the often fluid notion of something having worth to somebody, based on whatever aspect is meaningful to them: financial, operational, sentimental and so on.
By definition, a contract is all about the exchange of value between its parties, where each agrees on the nature of the value it wants to receive as the outcome of their arrangements."
For any number of reasons, less than all the value available in a contract might actually be released, in terms of delivery or receipt. Whatever can be done to minimise such occurrences should be done, because the total locked-in value across all of an organisation’s active contracts that hasn’t been released can quickly represent a significant figure.
This article discusses an approach to releasing locked-in contract value from the viewpoint of an organisation as a customer of a third-party, covering:
- Notions of direct contract value
- Indirect contributions to contract value
- Contract value release triggers
- How contract value lock-in occurs
Notions of direct contract value
While just about anything could be the subject of a contract-driven value exchange, the most common example is the provision of products, services, intellectual property or behaviour for cash or kind.
Value can also be available in the form of various rights the organisation might be granted. Examples could include its right to:
- Benchmark the market competitiveness of the current pricing it receives from a contracted third-party.
- Obtain an independent audit of the findings of a third-party’s IT security posture self-assessment.
Here, the value received is in the knowledge gained, and its potential use in helping the organisation to maybe get a better pricing deal, or increasing its awareness of the nature of third-party risk it might need to mitigate.
Various value-add opportunities might be offered unilaterally in a contract by its provider, or negotiated between the parties. These might sweeten the deal, incentivise desired behaviour, boost value-for-money outcomes, or recognise the quality of the relationship."
Value-add examples might include:
- Tiered-pricing based on individual order size
- Prioritised order delivery for consistently early invoice payment
- Insights into valuable supplier product development information based on cumulative spend-to-date exceeding some limit.
Both the core value-exchange and all value-adds described in a contract should be considered as direct or internally generated value.
Indirect contributions to contract value
A great deal of indirect value is also obtainable from the ecosystem that contracts operate within.
Active contracts shouldn’t operate without any oversight or attention. They need to be managed to varying extents to help ensure that they deliver the value expected of them when it’s expected. The various management activities used and outcomes achieved contribute indirect value to contracts as follows:
- A solid understanding of the contract coupled with increased visibility of its important aspects improves its operability and helps to enhance its performance.
- Well-understood and mitigated contract-related risk decreases the likelihood of operational impact on the organisation from its own actions and those of its third-parties.
- Active monitoring of the performance of both the organisation and its third-parties in compliance with their contracted and regulatory obligations and relevant service standards. This provides a basis for achieving the contract’s purpose, realisation of expected benefits and value for money, and avoiding the attention of regulators and their non-compliance penalties.
- A cordial, cooperative, and trusted relationship between the organisation and a third-party can assist in the mutual granting of preferred partner status to each side. This can deliver all sorts of value in the form of commitments around preferential treatment, leeway and support when necessary, access to elements of inside information that can benefit both sides, and general ease of doing business together.
- A collaborative approach to continuous improvement and innovation in the interactions between the parties can help to mitigate risk on each side, streamline operations, maybe even reduce costs.
Contract value release triggers
Contract value can be delivered to the organisation in full in a single transaction or released continuously over the operational lifetime of the contract. This can be scenarios such as buying it when you need it, like supplies, or as a continuous / timed supply such as paying as you go, like access to office premises for a monthly rental.
Specification of a value element in a contract does not guarantee that such value will be released. To manage expectations, every specification should describe how the value release can be triggered, because it might be:
- Unconditional: always available, like proactive provision of credit for any service performance shortcomings by the third-party rather than reactive only on demand by the organisation
- Conditional: only available under specific circumstances, such as free shipping for order quantities exceeding some limit, or discounts for early payment
- Optional: only available on request, say payment of large amounts by instalment.
Activation of any trigger might be automated or manual, depending on the preferences and the technologies used by the organisation and the third-party. The organisation should track all situations where such a release might happen, to ensure that it does when the right conditions apply.
How contract value lock-in occurs
Any element of contract value that isn’t or can’t be released for the following reasons is considered as locked-in.
Ignorance
This is a simple lack of awareness of any value opportunities available in a contract or their details, and that might even include its core value-exchange.
It can occur if contract documentation is unavailable, inaccessible or incomprehensible to the people in the organisation who really need to know its details.
This situation can be dealt with relatively easily, but its existence needs to be recognised.
Inability
Best intentions are commonly derailed by a shortage of people, processes, technologies, time and funding, and an excess of work. This leads to firefighting mode, where the next most critical thing needing attention gets it.
Under such conditions, an organisation can suffer a widespread inability to pay sufficient attention to normal day-to-day activities, such as ensuring contract value gets released. This can be a difficult situation to resolve."
More generally, the number of active contracts an organisation has, the level of resources it has available to actively manage them, and the arrival rate of new contracts can limit its ability to maximise the release of available value from those contracts.
Practically speaking, an organisation can only actively manage a small proportion of its contracts, commonly those that it deems to be most important. Such deeming might, with some risk, be used to keep the number of key contracts at a manageable level, rather than at its actual level. The natural consequence of this is the potential for much of all the available contract value in the bulk of its fleet to remain locked-in.
This can be a tough one to deal with, because periodic auditing will be necessary to determine the extent of locked-in contract value in the unimportant contracts. If resourcing issues are responsible for the situation, it’s just more work that has to be done with whoever and whatever is available. It’s a clear risk-reward calculation, and it could go either way.
Impracticality
This is the difficulty or sheer impossibility of undertaking some or all of the activities needed to release a particular type of value that might have been specified with good intentions but limited forethought.
It can never be assumed that the central value-exchange or any value-adds specified in a contract will be simple and straightforward to achieve. That’s because the transition from words in a contract document to action on the ground can produce a result sitting anywhere on a continuum between seamless and hopeless.
The actions implied by the words need to be assessed for feasibility and achievability when they’re proposed, and before the words are agreed to and embodied in a contract."
Only people with the needed assessment skills can, and should, undertake consideration of any relevant technical or manual solution for performing those actions and prepare a cost-benefit analysis.
Such an assessment could reveal that some forms of value might be too financially, technically or operationally costly to receive.
The presence of thoroughly assessed value opportunities in a contract is necessary but not sufficient to guarantee that they will all be realisable. Assessed solutions must be passed on to the contract implementation team to ensure that whatever needs to be done gets done to enable the release of available value as specified.
Wrap-up
Taking advantage of all the available value elements in its contracts, not just the central aim of achievement of purpose, is a common-sense activity for an organisation. Every little bit has always mattered, but never more so than these days.
Value that remains locked-in rather than released at every opportunity is a regrettable but very common waste. This is especially so when the effort has been put into the development of contracts and the relationship with their associated third-parties but things don’t pan out operationally for various reasons.
Johnny Diesel summed up this situation nicely when he sang ‘don't you know it's a crying shame, when you've got yourself to blame’.
Things don’t have to always end in tears though. The following guiding principles can help to ensure as many of the specified contract value opportunities as possible get released as expected:
- Contract development: before it’s in the contract, make sure it’s able to happen
- Contract implementation: if it’s in the contract, make sure it can happen
- Contract operation: if it can happen, make sure it does happen
- Contract management: if it does happen, make sure it happens right.
Adherence to these principles can go a long way towards preventing locked-in contract value situations occurring in the first place. If and when things don’t go to plan and some forms of value remain locked-in, the particulars of each situation should determine what can or might be done about it, either short-term or long-term.
Just remember that what worked yesterday might not work tomorrow, and Murphy’s Law is always out there somewhere in left field.
If you would like more information about releasing locked-in contract value or how Gatekeeper can assist with that activity, then contact us today.
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