Contract management with CATS CM® version 4. Gert-Jan Vlasveld
contract value plus the operational costs incurred by the party’s organization to ‘own’ the contract is called the Total Cost of Contract Ownership (TCCO). In addition to the contract value, TCCO also covers the costs of entering into the contract as well as contract execution and termination costs. The supplier has to include the sum of all these costs in the cost price of what is to be delivered. The client needs to include the TCCO in the make-or-buy decision: the business case based on which the decision for buying goods or services is made.
To understand the concept of TCCO, the organization must know which and how many employees are involved with the contract, in addition to the direct costs incurred in paying the supplier or spent by the supplier on the delivery to the client. These may include the employee responsible for the contract, the co-workers who have to be consulted regarding the contract, and colleagues who spend time ensuring the optimal execution of the contract. To this, costs for legal advice, financial administration, and the organization’s own project and service management must be added. Furthermore, the TCCO may also include costs for materials storage, workplaces for the supplier’s staff, and costs related to providing access to the organization’s locations. As the contract value grows, and with the increased variability of the environment, correspondingly larger budgets must be set aside to cover the costs of contract governance, contract extensions, continuing modified contracts, or terminating them. The termination of a contract also means that the supplier’s involvement with the client must be terminated organizationally. This contract phase-out also involves costs that are part of the Total Cost of Contract Ownership.
1.2.4. Quantifying the effectiveness of contract management
Only limited research has been done into the quantitative aspects of what contract management yields. Without exception, these studies look at the correspondence between performance and compensation and leave all other aspects aside. However, the results of these studies are consistent and indicate cost savings and cost avoidance between 5 and 10 percent of the contract value. Our experiences with businesses using CATS CM show that the implementation of CATS CM during the onboarding of already existing contracts can instantly achieve significant advantages.
■ 1.3 EFFICIENT CONTRACT MANAGEMENT
Efficiency means reaching a goal by using as few resources as possible. These resources may be related to the time spent on the contract, raw materials, or available systems. They can be translated into money and, thus, into costs. Contract management costs are those incurred in the deployment of the required staff to deal with contract management, the costs for support systems, and the indirect costs associated with these such as office, insurance, and workplace costs.
These costs for the entire organization depend on various factors:
■ the number of contracts;
■ the complexity of the contracts;
■ the structure of the contract management scenarios;
■ the extent to which the contracts are critical to business operations.
Once a contract manager has made a contract management plan for an individual contract, it is possible to estimate the time required to manage the contract based on this plan. The hourly rate can be used to calculate the estimated costs. Recording the time actually spent, and analyzing the differences between that and the estimated time, ensures that the organization continuously improves its own experience figures on which subsequent estimates are based.
When preparing their business case, suppliers often calculate a form of TCCO in advance, in which they include costs such as contract management, relationship management, project management, and service management. When structuring their contract management, they will often take into account the structure chosen by the client.
■ 1.4 BALANCING COSTS AND BENEFITS
Organizations with contracts who want to professionalize their contract management to make sure that they realize their intended contract objectives, choose to what extent they want to professionalize contract management. This is established in the contract management policy. This policy also identifies the choices that have been made regarding the desired effectiveness and efficiency of the contract management process. For some organizations, compliance with certain laws and regulations is reason enough to implement intensive, full-scale contract management. Other organizations want to see a monetary result related to contract objectives or contract value.
When the choice to apply contract management must be made, every organization makes its own evaluation of risks, costs and benefits. Regardless of the result of those evaluations, the following always applies:
Contract management pays off when its execution leads to added value, better risk management, and/or better (demonstrable) compliance with laws and regulations.
In the previous chapter, we explained the effectiveness and efficiency of contract management. When organizations decide to use CATS CM to organize their contract management more effectively and efficiently, it is best to know the definitions used in CATS CM. This chapter defines the most important terms related to contract management. These terms are the foundation for the rest of this book.
■ 2.1 DEFINITION OF CONTRACT
A book about contract management must, first of all, define the term ‘contract’. Laws and regulations in different countries give definitions of the term contract that may seem to differ in nuances but which largely share a common foundation. This common foundation is expressed in the following definition:
A contract is a written agreement, the result of a multilateral legal act, in which one or more parties enter into an agreement with one or more other parties.
When we delve deeper into this definition, we see that the definition indicates that compliance with the terms of the contract can be legally enforced. This is meant by the term ‘legal act’. The ultimate form of enforcement is that a dispute arising from the contract can be brought before a court of law. There are other ways of resolving disputes as well, such as mediation, which can be agreed upon in the contract.
The definition also mentions the fact that a contract is a written agreement. Most legal systems offer the option of entering into a contract by verbal agreement. Because it is crucial, from a contract management standpoint, for the agreements to be in writing, the definition uses the words ‘written agreement’.
In practice, supply agreements between different parts of the same organization are also called internal supply agreements or internal supply contracts. As disputes about these agreements can’t be brought before a judge (but rather taken to the higher management levels) and are subject to entirely different forms of dispute resolution, we don’t consider them to be ‘real’ contracts. This is also why we are especially careful when applying contract management to this type of internal agreement. In addition, the implementation of contract management for internal agreements means the costs double for the organization as a whole and the benefits for one party are the additional costs for the other. This means that monetary yield for contract management is zero while the organization still has to pay the costs.
■ 2.2 CONTRACT COMPONENTS
When considering contract management, the content of every contract can be divided into two parts: The Work To Be Done (WTBD) and All Other Contract Matter (AOCM). The distinction between these two components