IT Outsourcing: Why It Pays to Appraise Your Contract

Most IT outsourcing contracts contain post-execution provisions that, if not reviewed annually, can drive up costs or drive down performance. We've got an 18-point checklist to keep your outsourcing costs and service under control this year.

Everyone knows a good outsourcing relationship needs to be actively managed. So does a good IT outsourcing contract.

Most contain what Marc Tanowitz, principal of outsourcing consultancy Pace Harmon, calls "active obligations"—provisions to be completed post contract-execution that require periodic review or that may vary over time. Many of them can have a significant impact on performance and cost if neglected.

[ Outsourcing Contracts: Clause Control ]

Even a seemingly healthy IT outsourcing arrangement can benefit from an annual check-up to ensure that metrics are providing meaningful insight into performance, get an updated understanding of outsourced operations and how well they're running, and ensure that you're getting what you've paid for per the contract. If things aren't going smoothly, such a review can provide a platform for productive discussions with the outsourcer about why the relationship is faltering. And, in the worst case scenario, it can minimize the risks of transition for buyers thinking about walking away from a deal.

"Ideally, the relationship owners have a solid understanding of the contract, but this is often a lofty expectation," says Tanowitz. "The resources who negotiated the agreement are not the same people who 'operationalize' it."

Tanowitz estimates that a thorough contract review can take just four hours or less. So book a conference room, gather the outsourcing relationship managers, business partners impacted by the deal, and—if possible—those who negotiated the original deal, and go back to the beginning with the following eighteen-point review.

1. Resource Commitments

Many IT outsourcing contracts specify the number of service provider resources for each year of the engagement. In many cases the number of resources is linked to productivity or volume commitments. Buyers should ensure that the number of outsourcing employees and related volume or productivity attributes are correct for the current year.

2. Productivity Commitments

The outsourcer may be contractually required to provide specific levels of services (e.g., a certain number of help desk calls per employee). Ensure that productivity commitments are being met through decreased cost or increased transactions.

3. Pricing and Fees

Everything from service volume to resource allocation to annual adjustment provisions can increase prices. Review recent invoices—or better yet, quarterly invoice audits—to determine whether costs per unit are accurate. Go over any price escalators baked into the deal (e.g., cost of living or currency-related adjustments) and pricing algorithms or indices so you can anticipate and verify price increases.

4. Pass-Through Expenses

These fees are usually charged as they are incurred, but they may be subject to restrictions (advance approval, for example). Review these charges to determine the best approach to minimize them before they add up.

5. Continuous Improvement Plans

If your service provider is required to document proposals for increased efficiency, make sure you've received and reviewed them.

6. Benchmarking

It takes time and money, but if you have a benchmarking clause in your IT outsourcing contract, it's in your best interest to use it, particularly if you have limited productivity commitments in your contract. If service or prices seem out of sync with the market, consider an external assessment.

7. SLAs and Reporting

Services and needs evolve over time. SLAs and reporting requirements should be reevaluated periodically. Consider exercising audit provisions to ensure the service provider is measuring agreed upon metrics correctly, and verify that any performance credits due have been provided. If the contract does not provide for SLA modification and improvement, revisit this issue with the outsourcer.

8. Processes and Procedures Documentation

Service providers are usually required to maintain up-to-date documentation for all processes and procedures in order to train new workers, provide specifications for requirements, and ensure standardization. Verify that documentation is up to date and accessible.

9. Audits

Company policy, regulatory agencies, standards bodies, or just good business practice may necessitate periodic compliance or operations audits. Determine when audits are contractually allowed or due and plan accordingly.

10. Technology Configuration

Technical specifications are established when you sign on the dotted line, but may change over time. That can impact performance. Some IT outsourcing contracts contain technology refresh provisions to address this. Check your contract and make certain that the vendor is operating with the appropriate hardware and software.

11. Resource Certification

In cases where certifications are required to make sure external resources are aware of contractual obligations (e.g., confidentiality agreements, security clearances for defense work, compliance training in healthcare), buyers should verify the provider's employees have met all minimum qualifications.

12. Document and Data Storage

Most IT outsourcing contracts provide for data retention based on company policy or legal requirements, which can change over time. Be certain practices meet present-day requirements.

13. Business Continuity and Disaster Recovery

Your provider should be required keep all business continuity and disaster recovery plans current to minimize operational interruptions, but these plans can quickly become stale. Find out if the plan is current and recently tested.

14. User Access

Attrition rates in the IT outsourcing industry can be high—particularly offshore. Make sure your vendor has a robust user management process so that only authorized users have access to your systems and licensing and that licensing costs are kept in check.

15. Key Personnel

Key personnel and personnel restrictions are often specified in outsourcing agreements (e.g., certain service provider employees may not be swapped out for a minimum time period, the buyer may have a right to remove resources). Make sure this list is current and enforced.

16. Competitors

Your contract may specify a list of buyer and service provider competitors. Update this list to limit the risk of a competitor benefitting from your decisions or best practices.

17. Governance Cadence

Both executive-level and operation governance meetings ought to take place on a regular basis (e.g., quarterly) to address business and technical issues. Evaluate whether the governance schedule has been optimal. Schedule the next year's meetings in advance and set agendas to maximize the likelihood that necessary attendees actively participate.

18. Anticipated Business Changes

Do you anticipate any big business changes in the next year? Acquisition? Divestiture? New line of business? Develop a strategy to inform and engage your partners so they are prepared.

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