Contract Renewal Process Explained
While negotiating a contract may be complex and time-consuming, at least it has an endpoint when the other party agrees to and signs the document. It does not take long to realize, however, that renewing an existing agreement is often just as complicated as entering into a brand new contract with a party. Add into the mix the importance of the existing relationship and what is at stake, and the renewal process can become untenable. Both from a process and business perspective, understanding the life cycle of the contract renewal process is key.
Organizational renewal processes vary by company, but most include certain stages which progress from "initiation" to "completion." Each stage is associated with a pre-determined set of steps and supporting documentation required. For example, one common approach to implementation of a contract renewal may include a process map with specific tasks and roles memorialized in a "swim lane" format. Each of the phases has a set of requirements designed to make the process predictable. This holds true even if certain phases may not be applicable due to the nature or complexity of the particular deal.
Many renewal processes include a "special event" phase to address contract renewal for agreements that do not fall within the normal renewal timeline or scope of coverage . This phase establishes a framework for vendor engagement to ensure the renewal is given adequate attention.
As a contract nears its expiration date, it is important to determine whether it falls within the general scope of renewal so that the appropriate phase is followed. Accordingly, the business team should communicate with the supplier (generic reference to a person or entity providing goods or services) regarding its intent to renew and the timing for commencing the discussions. The renewal process should open with a meeting of the business team and supplier to determine the scope of the renewal and identify exceptions. At this meeting there should also be discussion regarding the timeline for moving to the next phase. The discussion should also cover whether the renewal will be addressed internally and the process for doing so.
Renewal of an existing agreement is an important point in the supply chain. General planning should involve consideration of required renewals at the beginning of any renewal period. As a best practice, the document drafting team should work with the business team to ensure renewal requirements are properly memorialized so that obligations are clear. One recommendation is to require formal approval of the renewal by both parties prior to commencement of performance under the renewed contract. That helps with planning and allows adequate time to renegotiate the terms.
Challenges Involved In A Contract Renewal Process
Common said that "the only way to avoid making mistakes is to have no new ideas." While this quote was likely meant to be a bit tongue in cheek, it is nonetheless true that the absence of mistakes is not simply the result of good luck. To the contrary, the tendency to pursue new ideas is unavoidable, and new ideas are the result of contracts. Change is inevitable, but so too, is resistance to change.
The same can be said for renewal of business contracts. Almost without exception, the negotiation of the existing contract terms will impact the parties’ relationship going forward. If it didn’t, there wouldn’t be a need for negotiation, and we wouldn’t have broken the contract out into discrete elements. Flaws in the current agreement will be discovered, and the necessity of modification – or even an entirely new agreement altogether – may present itself as the parties contemplate renewal.
Negotiation Roadblocks
Put simply, renewal negotiations are many times made even more difficult by the realities of our world – the passage of time. We have more pressing issues on our plate, and the renewal – which can feel like "just business" becomes very much personal. We don’t want to "rock the boat" and yet, if we make just one too many compromises, we feel taken advantage of by the other side. There is no getting around that. The negotiation process, however, need not be adversarial; and with proper preparation, it does not have to feel personal, either. This falling out of the bedher of negotiation is likely the most common pitfall in contract renewal processes.
Compliance Issues
Frankly, this may be the most common stumbling block or potential reason that changes are not successfully negotiated. There is an assumption that because the parties have done business before, there has been sufficient "due diligence" over the course of their relationship. While that may be true in some contexts, it is fully dependent on the complexity of the relationship, and parties should never assume this will be the case. The reality is that things change. New regulations change the compliance landscape. And a good faith desire to comply with those regulations is not going to impact a company’s bottom line. That is a fact. Compliance issues can certainly surface during the renewal process and put a further strain on an already tenuous negotiation.
Communication Breakdowns
What most people do not realize, is that substantive contractual negotiations occur while only a small portion of the negotiation is conducted with the focus on the business terms of the agreement. The vast majority of the time is spent addressing seemingly minor details between the parties, and although these details may seem minor to the parties, they do add up. Thankfully, some of the items are easily addressed and resolved; Candid and open communication can help you work through the more problematic elements of a renewal.
In some instances, however, there is a break down in communication that can be detrimental to the renewal process. Lack of or ineffective communication can be the result of an assumption that the lines of communication are open, and as a result, the issues are kept to oneself, or the issues are raised amongst a limited group only. In the context of a contract renewal, effective communication is critical. If the parties are failing to communicate, important issues could slip through the crack or be allowed to fester into something that is far worse.
An absence of communication is different than miscommunication, the latter of which is almost more common because it fails to take into account the cultural differences between the parties as it relates to the negotiation process. This is especially true if the parties do not frequently engage in negotiations, or are not from the same region.
In sum, the best way to avoid bad blood in renewal negotiations is to prepare, communicate openly and honestly, and bear the reality that the absence of mistakes is often the result of more than good intentions.
Best Practices in the Contract Renewal Process
To set your business up for the highest chances of contract renewal success, setting a game plan at the outset and following a few steps can be crucial. Here’s a handful of steps I find to be essential:
- Preparation. Contract renewal prep should start at least a couple months in advance of the contract term expiration. This includes determining the individuals within your organization who are involved in each contract and the data each of those internal stakeholders will require to assess the contract. For example, if an existing contract covers a line of business that provides customer service support but the line of business receiving the service falls under a different manager, having the cost and performance data from the line of business receiving service is essential. Saying, "I don’t know, you’ll have to ask them" when someone asks how a contract is performing in the year to date is not a winning strategy.
- Stakeholder Engagement. Engage internal stakeholders well in advance of the contract expiration. If a contract is touching multiple internal stakeholders, I recommend preparing a concise summary of the contract that includes what each of the internal stakeholders’ responsibilities are under the contract (e.g., purchasing, cost center management, cost centers to be billed), how many FTEs under the contract, highlights of the services or products delivered this year, and total spent. Share this high-level synopsis with those stakeholders and ask them to review, comment and add any additional information that you may not know. Ask them to provide any feedback on improvement they would like to see made in the next contract. Keep in mind that the perils of waiting until the last minute generally reward you with little to no margin for error.
- Assess the Current Contract. In addition to the steps above, assess the current contract and consider if there is a track record of contract performance issues, if you are achieving the intended results and if the terms of the contract could be improved upon in any way. Look at KPIs, customer satisfaction, performance metrics and anything else that is relevant to the contracted services or products you receive. Identify opportunities for improvement that could be built into the new contract, and come up with a plan for how to address those opportunities for improvement.
- Proposal Review. As proposals come in from vendors seeking to contract with your company, designate someone to review the proposals first, to identify any gaps or areas where more information is needed before sending the proposals out to the relevant internal stakeholders. You do not want to delay the process because proposals sit out longer or bounce back and forth between your company and the vendor because someone neglected to ask for clarification on the front end. Set a timeline for internal feedback, and give each internal stakeholder a calendar invitation with a reminder a few days before to complete their review. At the very end of the review process, it generally comes down to bang for the buck and who you trust to deliver. Where two proposals are essentially equivalent, there is always the question, "who do you think you can best work with?"
If you follow these four steps, you can be well prepared to set your company up for a successful contract renewal.
Effective Contract Negotiation
Successful contract negotiations can be the difference between a satisfactory renewal and a prolonged dispute. When negotiating a contract renewal, it is important to have realistic expectations of the negotiation process, while equipping your legal team with the necessary tools for effective negotiation. Persuasion techniques are particularly relevant to negotiations, as they encourage a respectful approach to conflict management. Asking appropriate questions and expressing empathy towards the other party are techniques which facilitate a mutually beneficial negotiation strategy. This is a more productive use of valuable time and resources for both parties, and results in an agreement which both parties feel reasonably satisfied. Asking open-ended questions is useful during the negotiation process. It can provide insight into the motivations and goals of both parties and may give rise to an alternate solution which had not been considered. For example, if a customer is unhappy with a long contractual term of a renewal agreement, consider whether a shorter term with an increased cost would benefit the parties. If a supplier is asking for an increase in cost in order to provide services, consider whether the fee increase is proportionate to the service being provided or whether the scope of the service should be reduced. There may not always be a solution which will be welcomed by both parties, however this approach to negotiation will lead to the best possible outcome in the circumstances. Expressing empathy towards the other party is also a very effective negotiation tool. Identifying the factors which are prompting the other party’s negotiation strategy could provide insight into a reasoned rationale for their position. For example, if a supplier is asking for an increased fee and you suspect it is due to increasing costs due to inflation in general, you could counteract this by pointing out that your business is struggling under economic conditions and that an increase in price would leave you with no choice but to find an alternate supplier. An empathetic strategy could also lead to other potential solutions being uncovered. For example, if your ongoing supplier is asking to increase its fee, you could ask whether the supplier would be willing to accept your standard terms of trade for the renewal contract. Another way to ensure effective contract negotiation is to ensure that your legal team is aware of your objectives prior to the commencement of negotiations. Using role plays, for example, could be a useful tool for preparing your team. It is important that your team is also aware of the areas in which you are flexible, as well as the points on which you will not compromise. A strategic preparation could lead to more productive negotiations, save time and money, and avoid the need for expensive litigation.
The Role of Technology in Contract Renewals
As the contract renewal process incorporates more technology, organizations are finding that they can not only streamline their operations, but also increase the quality of their outcomes. Contract management software and IT systems, automation tools, and data analytics are contributing to better decision-making and more manageable day-to-day operations. Contract management systems (CMS) streamline many of the contract renewal steps, in addition to facilitating the ideal final steps. You may already be using an enterprise resource planning system (ERP) with a contract management component, or your CMS may be a separate system. Either way, a documented, clear process will be invaluable to achieving continuity from renewal to renewal.
Automation tools make it easy to see which contracts are up for renewal and alert you to key dates associated with these contracts. This will allow you to create advance reminders about starting the renewal process for each contract, and when it is necessary to issue termination notices. It will also help you avoid underestimating the time required for negotiations and drafts, which can happen when there are a number of contracts requiring renewals.
New contract terms can be folded into the CMS, allowing you to build a contract repository that is up to date, organized, and easily accessible. An effective audit trail can also be established, including a system for tracking modifications to contracts. This will help you to see which contracts are likely to need a termination notice since they may be becoming less favorable. A CMS can also assist with onboarding by triggering required steps like issuing welcome letters and creating new profiles for vendors. This will allow you to ensure that all necessary information is being collected and stored.
Like most business activities in the 20th century, contract renewals will become increasingly data driven. However, this was not the case just before the millennium . In fact, the 1995 paper "Data-Driven Decisions: Principles and Practices for Purchasing and Contracting in the Federal Government" shows how far we’ve come since then.
Some data-driven decisions can be made quickly. For instance, if you need to exercise an option period for a contract, you can decide whether to action the option based on the performance KPIs that your company has defined. But other decisions require a more thorough review. For example, you will need to analyze your organization’s relationship with its contractor on an R&D project, to determine if it would be worth issuing an RFI and receiving proposals.
As you build a track record with a CMS and become more adept in your understanding of data analytics, you will become more confident with making decisions based on data about your suppliers and the marketplace. Companies like Swarovski and The Washington Post have used data-driven approaches in their contract renewals to cut costs and improve the quality of their offerings. Since no two companies are exactly alike and no two contracts are the same, your ability to make informed decisions by understanding how different contracts are managed and by whom will set you apart from the competition and enable you to serve your clients effectively.
Technology will not eliminate the human element in contract renewals. It will treat your lawyers as the important business assets that they are. Technology can make basic tasks easier for your staff, but it will not substitute for the judgment that your team members exercise when deciding what needs to be done next and how best to achieve all of your organizational needs.
Companies that want to integrate new technologies into their contract renewal processes without disrupting their operations are tasked with training their teams to use these new tools. This is not just about setting up the software, but also about teaching your staff best practices in using the software as it relates to their roles. By effectively training your team on these new technologies, you will establish a foundation for long-term success.
Legal Aspects of a Contract Renewal
Navigating the legal landscape when it comes to contract renewal is crucial. Understanding the relevant contract law and ensuring compliance with regulations paves the way for a smoother renewal process. For businesses, navigating through the complexities of contract negotiation and renewal can be overwhelming without the right legal guidance. Compliance with local, national, and even international laws is not just a best practice; it’s a necessity that protects businesses from potential liabilities. Legal advisors play a critical role in this aspect, ensuring that every contract clause is aligned with applicable laws and industry standards.
While drafting or reviewing contract terms, it is essential to consider areas like intellectual property rights, termination clauses, renewal and rollover clauses, confidentiality agreements, payment terms, and dispute resolution mechanisms. These may seem like mere legalese, but they can have a significant impact on the future of your business relationship. For instance, if the contract contains a non-compete clause, the business may find itself restricted from partnering with a competitor for a specific duration. Having a legal advisor who understands your industry can help avoid bizarre scenarios like these.
Industry standards and best practices are also worth noting during the legal review of contract terms. Some industries have unique stipulations that must be followed during contract renewal. For example, in sectors like renewable energy or healthcare, there are various regulations that govern how contracts should be written and executed. A compliance oversight could lead to costly penalties or even nullification of the contract.
In conclusion, the legal considerations in contract renewals are not optional; they are fundamental to a successful contract lifecycle management. Early involvement of a legal expert in every step of the process ensures that the contract is not only a fair representation of what both parties intend, but also legally binding and aligned with the best practices of the industry.
Contract Renewal Case Studies
The National Aeronautics and Space Administration (NASA) has a contract with ITT Corp.’s Cannon Airborne Systems Division to develop an advanced surveillance sensors system for the RQ-7 Shadow 200, an unmanned aircraft system. When the contract came up for renewal, the scope of the work had changed considerably since the original agreement was forged. Competing bids were going to be based on this new scope of work, but in the past it had been common to renew the agreement with ITT for lower pricing and perhaps even a volume discount as our needs had decreased. How to renew in a decreasing-demand situation?"Work your relationship, don’t work your contract" was the mantra embracing all levels of the procurement team. As contract negotiations progressed and while our demand for this type of sensor system remained constant, NASA was focused on lowering prices per unit and agreed to $40 million reduction off the previous year’s prices over four years — the longest term yet — despite knowing that the same components for these sensor systems had increased in price by 25 percent since the previous renewal due to supplier shortages. ITT had been a good partner in the past by working closely with NASA and contributing significant improvements over the years and we felt assured that ITT would continue to do good work. ITT was again awarded the contract and even agreed with additional concessions — the addition of spare parts instead of penalties was negotiated into the deal. Factors for success: This contract renewal was successful because of: (a) strong relationships with ITT and insights into their cost structure and plans; (b) an understanding of our alternative sources and long-term strategy for our unmanned aircraft system. Success was also directly related to an analysis of the entire contract to determine what was most valuable on our end and what we could leverage in exchange for price concessions. In short, we got a good deal to satisfy our shareholders; ITT achieved a good deal by receiving a several-year contract to increase their revenue stream and retain skilled labor and relationships in the community; and our solution will enable us to compete effectively with other departments and services and affordably implement a strategic technology that will over time become a vital part of the U.S. defense infrastructure.
Latitude is a major global telecommunications hub and gateway to Latin and South America in helping companies deploy broadband Internet services worldwide. The company’s high-speed digital network, which allows customers to design, build, operate and manage Internet and other network services through a single interface, serves airlines, cell phone companies, Internet service providers, cable operators, multimedia companies and financial companies.The company only had a two-year contract with the manufacturer for their wireless equipment. It was time for renewal , but we knew the costs of doing business had increased for Latitude’s manufacturer and they would want to pass on those costs to Latitude. The procurement team had been told to get the lowest price possible, but also to make sure the quality of the wireless equipment was not diminished. The program manager and technical department researched competitive products and followed every disruption in the supply chain that might impact our equipment costs to see how and when we could leverage our position. Most importantly, the procurement team looked carefully at the language in the current contract to see if anything could be changed over the course of the next two years that would provide Latitude with significant benefits and thereby be worth paying the higher price.A significant change in the terms — lower volume requirements to provide Latitude the flexibility to reclassify equipment from a capital investment to an operating expense — if warranted, proved to be a significant factor in any so-called "cheap pricing" from the equipment manufacturer. Still, despite all our research and negotiations, Latitude was hesitant to sign the renewal agreement. Why? The company was concerned that despite the long-term investment it had made with this supplier, the supplier had still not discontinued its relationship with Latin America’s largest telecommunications company. In fact, the supplier had provided the Latin American telecommunications company with a lower-class product at a cheaper price. This indicated to Latitude that the supplier was still looking for the best price, rather than building the long-term relationship. And, worst of all, the Latin American telecommunications company has the ability to affect Latitude’s volumes in positive and negative ways. Negative, in that the company might purchase from another competitor and we might be cut out of the contract. Positive, in that the company might include Latitude’s services and require that they be the exclusive provider and thus have higher volumes to support our interest in providing them greater flexibility in terms of buybacks and reclassifying equipment costs over the two-year period. We chose not to sign. Factors for success: This unsuccessful contract renewal was unsuccessful because of: (a) our inability to take control of the contract; (b) limited ability to change terms to better suit Latitude’s needs to help offset the costs or provide incentives to lower costs; (c) the supplier cut too deeply into our margin and profitability for the market space in which we were participating; and, most importantly, (d) that the supplier had hedged its bets — it is always dangerous to an organization’s long-term success to partner with a supplier that doesn’t consider the impact of the strategic relationship on future product offerings.