Loading...
 
IACCM - International Association for Contract & Commercial Management Contracting Excellence Magazine
 

Contracting Excellence Magazine - Feb 2008

 
 

 

The value proposition behind commitment management and improved corporate contracting

 
Most businesses view contracts as a defense mechanism. This means that while negotiation is in part about defining the relationship, it is used most extensively to agree on the allocation of risks. In addition, there is rarely a defined point of internal ownership carrying accountability for contracted outcomes.  As a result, the process is complex, lengthy and poorly defined. Or, alternatively, it is rigid, insensitive and focused on compliance. In either case, contracts are viewed by many as a bureaucratic necessity rather than a core business asset, and the impacts they have on business performance are inevitably sub-optimized. This article suggests a way in which contracts can become a source of increased value and assist the business in driving growth and innovation. These recommendations apply to both sell-side and buy-side contracts and procedures — because in the end, no matter which group you represent, everything you do must support your ability to win in the market. TIM CUMMINS, CEO, IACCM.
 
 

by TIM CUMMINS, CEO, IACCM

Why care?

Most businesses view contracts as a defense mechanism. This means that while negotiation is in part about defining the relationship, it is used most extensively to agree on the allocation of risks. In addition, there is rarely a defined point of internal ownership carrying accountability for contracted outcomes. As a result, the process is complex, lengthy and poorly defined. Or, alternatively, it is rigid, insensitive and focused on compliance. In either case, contracts are viewed by many as a bureaucratic necessity rather than a core business asset, and the impacts they have on business performance are inevitably sub-optimized. This article suggests a way in which contracts can become a source of increased value and assist the business in driving growth and innovation. These recommendations apply to both sell-side and buy-side contracts and procedures — because in the end, no matter which group you represent, everything you do must support your ability to win in the market. The issue that faces most contracting groups is about balance. Risk takes many forms and often contract terms and practices tend to emphasize one set of risks at the expense of another. For example, they may protect you in the event of lawsuits, but cause you to lose revenue or discounts. They may reduce input costs, but raise the overall cost of doing business. Balance is in part about good business judgment, but that is often a difficult concept to apply to every deal or relationship. So, measurements are needed to support a more holistic view of the contracts portfolio and, through this, to identify trends or repetitive issues that may indicate shifting risks or emerging opportunities.

What is contracting inefficiency costing you?

 

Contracts reflect a series of policies, procedures, rules and resource capabilities. If the terms in the contract are misaligned with either:
  • the needs of the market; or
  • the capabilities desired or offered by your company,
you will face an increased probability of unhappy customers, extended lead-times, lost or sub-optimized business and unauthorized/ill-considered commitments. IACCM research has also revealed a co-relation to increased claims, disputes and damaged customer relationships.
Intangible costs which are directly linked with the quality of contracting include:
  • ease of doing business throughout the relationship lifecycle — the quality of customer and supplier interactions;
  • brand image — the alignment between what you imply, what you promise and what you deliver;
  • risk to reputation — keeping your word, complying with ethical and regulatory standards;
  • regulatory breachmany corporate governance issues relate directly to contractual commitments and practices; and
  • market opportunities — the ability to compete in market segments or to enter new markets is directly impacted by contract offerings.
Tangible benefits from well-aligned contract terms and process simplification include:
  • earlier realization of benefits from contract relationships;
  • improved or advanced cash flow;
  • operational efficiencies;
  • reduction in non-standard terms/contract variations;
  • shorter cycle times for review and approval;
  • reduced staffing levels/increased field productivity;
  • pro-active change management to reflect shifting needs/values in customer or market relationships (incremental revenue opportunities); and
  • reduced claims or disputes.
An unplanned process is highly transactional in nature and is generally reactive to shifting market needs. A well-planned process is a source of valuable market intelligence and drives changes in internal business policies and procedures to ensure their continued alignment with market needs or, alternatively, assists in de-selecting markets where it is no longer attractive to compete.
Contracting represents a strategic tool to oversee the quality and integrity of business operations — defining and testing the alignment of your business with that of your trading partners.

What should we measure to support continuous improvement?
Today, most contracts groups operate with minimal measurements, and those that are used are often subjective. ‘Good' measurements contribute to the executive agenda in a wide range of areas, such as customer satisfaction, risk, brand image and cost.
Measurements can be based on both efficiency and effectiveness. They can relate to the contract, the process and also the group/function charged with their oversight. Obviously, it is not just a matter of measuring — it is also a matter of setting improvement targets and monitoring those improvements. This offers internal benchmarks over time. Of course, to drive real improvement (and potential competitive advantage) it is wise to also undertake external benchmarks — and that is where associations like IACCM should be able to help you.
Among the areas to consider measuring might be:
  • cycle times;
  • volume of contracts/deals/negotiations per professional,

      at any one time (average); and

      over a period of time;

  • frequency of disputes/claims;
  • frequency and nature of contract changes;
  • cycle time to manage changes or disputes;
  • frequency of negotiated terms (topic);
  • improvement initiatives (business value) — for example, actions undertaken to drive changes in business policy and procedure that result in increased efficiency or performance (examples might be in areas such as accelerated cash flow, reduced review and approval requirements, innovative terms that distinguish the company from competition);
  • user group satisfaction;
  • initiatives to improve user group effectiveness (for example, empowerment);
  • customer 'ease of doing business' metrics;
  • risk management indicators (management dashboards); and
  • innovation enabled through improved offerings or relationship management.
In addition to any deal-based performance criteria, internal metrics might address areas like:
  • performance benchmarks with similar groups in other corporations;
  • skill and knowledge improvements;
  • retention; and
  • management reporting — strategy initiatives.
Many people involved with contracting perceive measurements as a stick with which they can be beaten — and therefore resist their implementation. But in truth, the performance of groups like contract management, sourcing or legal has a very high dependency on how others in the organization behave — and therefore measurements often provide a way to ensure others perform to their key performance indicators. And as a result, they can drive not only greater personal job satisfaction, but also deliver real and visible business value.
Tim Cummins,
CEO, IACCM.

 

 
 


 

Capability Maturity Model — a vehicle to understand and drive commercial excellence

 
The IACCM Capability Maturity Model provides a mechanism to rapidly and accurately assess both buy-side and sell-side process performance by focusing on the key commercial attributes that drive business outcomes. This article provides an insight into the model, discusses the procedures required to implement the model, and the benefits which flow from it, with examples from Rockwell Automation and Cisco Systems. MARK DAVID, COMMITMENTOR; KATHERINE KAWAMOTO, IACCM; AND TIM MCCARTHY, ROCKWELL AUTOMATION
 
 

by MARK DAVID, COMMITMENTOR; KATHERINE KAWAMOTO, IACCM; AND TIM MCCARTHY, ROCKWELL AUTOMATION

 

The IACCM Capability Maturity Model provides a mechanism to rapidly and accurately assess both buy-side and sell-side process performance by focusing on the key commercial attributes that drive business outcomes. This article provides an insight into the model, discusses the procedures required to implement the model, and the benefits which flow from it, with examples from Rockwell Automation and Cisco Systems. 

Main points

        A unique feature of the IACCM Capability Maturity Model is that results are immediately benchmarked against a portfolio of similar companies and processes, enabling valuable insights on competitiveness and the areas for priority improvement.
       Drawn from Six Sigma techniques, the model addresses nine business dimensions which are discussed.
       To assist primary users in assessing their commercial contracting capability, IACCM has developed a Six Step Plan that enables rapid movement through assessment, validation and improvement planning.
       The model is of benefit as a vehicle in understanding not only an organization’s current capability status, but also to assess, review and consider how best to advance its functional capability.

As we strive to improve our contracting organizations, it has been common practice to focus on benchmarking ‘best practices’ that others have implemented and found useful. This approach has provided useful perspectives and yielded functional improvements. However, what passes for ‘best practice’ is often simply something others are doing that hasn’t reached your radar screen yet. In other words, best practices may not be best in class, or even best in business, but simply a flavour of the month that everyone seems to be trying. Benchmarking can give valuable insights but provide limited perspectives to achieving true leadership.

This is not to say that using practices that are successful in other companies should stop, but how do we get beyond best practice sampling and achieve a more mature level in our performance and behavior? Various professions and functions have developed models over the years to tackle this challenge — from software engineers to Six Sigma practitioners. At IACCM, we recognized the need to move to a maturity-focused model to better assess our member organizations and drive needed improvements in our respective markets.

IACCM has developed its own Capability Maturity Model to identify the characteristics defining world-class performance and provide the capability to assess the status of commercial contracting functions. Organizations that use this model are able to rapidly identify how they currently relate to global standards and map out a change program relevant to their business.

Led by IACCM Board Member Tim McCarthy, the IACCM online Capability Maturity Model (the model) was developed by a cross-industry, international team of practitioners and experts who used their Six Sigma experience and techniques in the underlying design. The model addresses nine business dimensions:

1.  leadership;
2.   customer/supplier experience;
3.   execution and delivery;
4.   solution requirements management;
5.   financial;
6.   information systems/knowledge management;
7.   risk management;
8.   strategy; and
9.  people development,

and provides descriptions that help people to identify the maturity level of an organization for each of the nine business dimensions. This enables an assessment to be made as to which of the following phases reflects the current situation:

        Phase 1: start up
        Phase 2: disciplines under development
        Phase 3: discipline is functional
        Phase 4: continuous development
        Phase 5: world class (best-in-business)

The model provides a mechanism to rapidly and accurately assess both buy-side and sell-side process performance. Its focus is on the alignments that drive business outcomes in market or supplier selection, terms and offerings alignment and outcomes.

A unique feature of the model is that results are immediately benchmarked against a portfolio of similar companies and processes, enabling valuable insights on competitiveness and the areas for priority improvement.

The methodology and associated tools have been tested and validated by more than 200 senior professionals and managers from over 15 countries, to ensure their ease of use and that they generate accurate results. These initial users also provided the core set of benchmarking data that enables future users to benefit from immediate comparative performance data (the fact that the model is online means that the benchmark data continues to grow in its size and scope).

Primary users to date have been assessing their overall contract negotiation and management procedures (‘commitment management’). To support their assessment, IACCM has developed a fast and accurate Six Step Plan that enables rapid movement through assessment, validation and improvement planning.

The Six Step Plan

Step 1: Maturity benchmark and gap analysis

IACCM sets up a custom portal to enable the following online survey and data collection.

  • Undertake (a practitioner led) self-assessment of current process performance.

  • Undertake (a user/stakeholder) analysis to identify process user perspectives of process maturity (web-based survey).

  • Compare practitioner/user views to identify areas of weakness, and items for more detailed investigation.

  • Use IACCM-provided benchmark data to identify key weaknesses in current processes (and the gap-to-market and industry norms).

  • Undertake an assessment of the impacts that will result from a failure to close these gaps (description of consequences over a 24–36 month timeframe)

Step 2: Develop capability value proposition/statement of need
(This can occur in parallel to Step 1.)
  • Analyse corporate strategies and goals and create a statement of required process outcomes (deliverables and characteristics):
   need;
—  status today (weaknesses/inhibitors); and
   capabilities to be created.
Step 3: Set the framework for measurable results
Develop plans for ongoing measurements, which in turn will allow continued analysis and improvements, and will support initial assessments of ROI/validation of results.
Step 4: Define potential projects and outcomes
The initiatives required to drive improvements will be defined as discrete projects; each project will be based on specific and measurable outcomes that include both qualitative and quantitative targets.
Step 5: Prioritization
Analyse the relative importance and costs of the improvement programs. For each potential initiative, plot its contribution (to the priorities established in Steps 1 and 2) relative to the resources it will require. This analysis allows overall costing of the improvement program and supports prioritization/selection.
Step 6: Create a business plan
Consolidate data to produce recommendations and build internal consensus:
The plan sections should include:
       why contracting excellence is important;
       what is wrong today;
        why it matters;
        what improvements could be achieved;
        the benefits that will result;
        analysis of importance versus costs;
       recommended actions; and
        what it will take to get there in terms of:
        time;
        people;
        cost; and
        executive commitment/sponsorship.
Case studies
Rockwell Automation
The experience Tim McCarthy has had at Rockwell Automation is a case in point. Taking the model’s workbook, Tim had each of his regional managers complete an assessment for their respective regions (North America, Europe Middle East and Africa, Asia Pacific and China, and Latin America). He then held a discussion with all of them in which they reviewed each other’s assessments and challenged the assumptions they had formed and the perceptions they had of the maturity level and demonstrated behaviours. At the end of the discussion, each region rebalanced their maturity assessments to more ‘realistic’ levels.
What do we mean by more realistic? Well, there may be a tendency to over-emphasize the positive attributes of our organizations’ performance and achievements and, conversely, under-play the negatives or areas of needed improvement. Having to defend your assessments to your peers and take a second, more rational view at your organization usually yields a more realistic assessment.
Rockwell is now in the process of determining its next steps, be they discussions with internal contracting teams on action plans to improve performance, or discussions with business leaders to discuss variations in the perceived maturity and what can be done to close any gaps. The value is not in having an accurate assessment of one’s maturity to the third decimal point, but in using the model to facilitate meaningful discussions with key stakeholders to ensure agreement on, and commitment to, performance indicators essential to business success, and how Rockwell implements actions to address shortcomings or make improvements.
Cisco Systems
Cisco Systems has also undertaken a similar organizational self-assessment using the IACCM model. In the spirit of collaboration, in addition to the commercial management team driving the maturity assessment, Cisco included several key stakeholders in the process such as legal, purchasing and finance. By including the other functional organizations in the process, Cisco’s commercial management team was able to validate their own assessment as well as identify areas where the perception of the functional groups differed. They, too, intend to use this information to help them identify areas for improvement as well as prioritise their 2008 initiatives. ‘We are just at the beginning of this journey, but we are excited by the possibilities we see’ says Brett Pauly, Director of the Service Provider Commercial Office. ‘We feel this will be a valuable tool to help us achieve our desired level of contracting maturity.’
Conclusion
The Capability Maturity Model has generated significant interest as organizations see it as a vehicle to understand not only their current capability status but, more importantly, to assess, review and consider how best to move their functional capability forward. The internal, cross-functional dialogue that this process generates also provides the possibility for commercial functions to deepen their cross-functional relationships — a beneficial by-product of going through the Six Step process. IACCM envisages making further improvements to the model and we welcome your thoughts and suggestions to help this process.
Katherine Kawamoto.
Vice President of Research and Advisory Services,
IACCM,
Email: kkawamoto@iaccm.com,
www.iaccm.com.
 
Tim McCarthy,
Director of Global Contracts and Pricing,
Rockwell Automation,
Email: tsmccarthy@ra.rockwell.com,
www.rac.rockwell.com.
 
Mark David,
Principal, CommitMentor,
Email: mark@commitmentor.com,
www.commitmentor.com.
ABOUT THE AUTHORS
Katherine Kawamoto is responsible for developing IACCM’s research and advisory services and has been heavily involved in building IACCM’s relationships with academia. Prior to joining IACCM, Katherine was the Worldwide Director of Contract Management at NCR Corporation. Her experience spans more than 25 years and includes both buy and sell-side leadership roles.
Tim McCarthy is responsible for improving Rockwell's bottom-line profitability, project cash flow and customer requirements management by strengthening key sales contracting fundamentals. Tim joined Rockwell after two and a half years with Invensys, where he led the contracting process globally, re-engineering their contracting and negotiations practices, both pre- and post-award. Prior to Invensys, Tim worked for 24 years with Honeywell International where he had a varied career, including directing contract and risk management for the home and building control business and sales and operational positions in the military avionics business unit.
Mark David is the founder and principal of CommitMentor, a consultancy providing innovative commitment management coaching, training and operational services. Mark has over 25-years’ commercial experience living and working in multiple cultures in 31 countries. Mark has been involved with IACCM since its inception, was a board member from 2000 to 2007, the association’s chairman in 2003 and 2004, and is an honorary vice chairman.
 
 
 


 

KPIs to align the contract management process with your sales process

 
Jason Lemkin from EchoSign provides the special sponsoring contribution to this Measurement issue, in which he explains the values to be achieved from alignment of sales and contract management processes. JASON LEMKIN, ECHOSIGN
 
 

by JASON LEMKIN, ECHOSIGN 

Main points
       In 2008 the merger of contract management processes with sales processes will become a top priority for CEOs and CFOs as the ability to get contracts signed, tracked and filed becomes a critical component in driving revenues.
         A 2007 study by Christopher Dwyer of the Aberdeen Group, entitled ‘Contract management benefits sail away from mid-market’, notes that: ‘Within the next two years, the percentage of a company’s revenue that is dictated by contracts will increase from 56 per cent to 68 per cent’. From renewals to projections and compliance, the ability to close the contract in the shortest possible timeframe and readily access the executed contracts across the enterprise will become the leading performance indicator of a company’s long term success.
         Many companies have a contract management process that typically involves legal, procurement and finance. However, this process is not typically aligned with the sales process, and the gaps and bottlenecks between the two processes deliver sub-optimal revenue performance.
       By aligning the sales and contract management process, discovering the particular bottlenecks and the identifying key performance indicators (KPIs) to measure the success of these merged processes, companies can identify when and where to automate, and determine what services and solutions will work best to optimize efficiencies from contract creation to contract close.

Step 1: identify the alignment between contract management and sales
Aberdeen’s research has shown that, ‘on average, 18 per cent of an enterprise’s sales cycle is attributed to contract creation, negotiation and approval. For example, if a company has a sales cycle of 90 days, approximately 16 days are taken by contract-related activities. With this in mind, a one day reduction in a company’s sales cycle is worth, on average, approximately $80,000’.
When taking the steps to align the contract management and sales process, companies should determine what percentage of the overall sales cycle is attributed purely to sales activities; what percentage deals with the contracting process — creation, negotiation, delivery, signature, recording and archiving; and what percentage of the contract process affects sales performance.
Typically, for most companies, it is the end of the contract process — signing, recording and archiving — that affects sales performance as sales teams chase down customers’ signatures and file or digitize executed contracts. From here, companies can determine where there may be overlaps or gaps in both processes, and what steps can be optimized. For example, depending on the type of contract or the value of the contract, you may not be able to optimize the negotiation phase, but you can probably automate and optimize the contract creation phase, and the signature, recording and archiving phases.
It is equally important to identify the divisions, decision makers, approval processes and reporting capabilities that come into play. For example:
  • Who needs visibility into the entire sales and contracting process?
  • Who needs visibility into just the contract signature process?
  • Do the contracts require ‘wet signatures’ or can they be e-signed?
  • Which departments are responsible for managing the contract once it is signed?
  • How easy is it for finance and legal to access previously executed sales contracts and account information?
Once you have answered these types of questions, you can begin looking for the real bottlenecks and find efficiencies across organizations.
Step 2: identify the bottlenecks
Once you have identified the best way to align the contract management and sales process, take the time to understand the bottlenecks that will occur. For example, many companies have aligned the contract management and sales process by using an automated contract management application and/or a (customer relationship management) CRM application. However, they still experience a bottleneck in the time it takes to get a contract signed, tracked and filed. Companies should therefore determine whether the bottleneck: is in the time it takes to deliver contracts via fax or mail; the time it takes the customer to sign; an inability to have the contract and the revenue recognized within a certain timeframe; or visibility into the signature process — or maybe all of the above. It may be the case that a contract signature workflow application is the critical missing piece required to implement an end-to-end solution and successfully align the contract management and sales process. Once these and other bottlenecks have been raised, companies can determine what type of automation will deliver an optimal solution.
Step 3: measuring KPIs
Now that you have outlined the process, identified some bottlenecks and have an idea of what to automate, it is time to set up some metrics for success. Here are four suggested key KPIs to measure the successful alignment between your contract management process and your sales process.
1.       Shortened sales cycles — on a single contract — the time between delivery of a contract to a customer and the return of a signed contract.
2.       Increased contract size — as better and more efficient methods of contract renewals and delivery are leveraged, the actual size of individual contracts will increase.
3.       More contracts closed — efficiencies in the contract process free up your top team dealmakers, enabling them to close more contracts.
4.       Easy access to contracts — easy recall, archiving searching and compliance by having visibility to all contracts across multiple divisions.
Case study: freeing the bottlenecks
One of the world’s largest broadband and mobile telecom companies based in the UK had aligned most of their contract management and sales process. However, they had been unable to automate the critical final step — the actual signing of the contract. Relying on mail and fax doubled the sales cycle, and increased overheads and expenses to the point where it wasn’t worth the time to get certain contracts signed. This affected business performance because of the time lost in the effort to collect on contracted invoices, as well as the discovery that customers were under no obligation to pay for services without a signed contract.
By implementing an alignment process and analyzing the bottlenecks, the company discovered that scanning, faxing, postage, paper and filing was prohibitively expensive, adding to the time and cost to process the contract. It also realized that beyond the signature process, it needed an electronic method to deliver contracts, receive signatures, and file the contracts. Finally, it was imperative that the company was able to provide visibility into these contracts, in real-time to multiple departments including marketing, sales, finance legal and HR.
By using e-signatures in a web-based contract signature workflow service, the company was immediately able to deploy the service to 3000 sales representatives, allowing them to automate the signing, tracking and filing of the contracts without any paper being used in the process, and without the requirement of training,. Multiple departments were able to see contracts as they were signed and it facilitated ease of management and archiving for auditing and compliance purposes. Once the contract signature workflow was added to the business process, the company was able to create and meet key KPIs that drove the following results across the business.
1. Shortened sales cycles — the contract ‘quote to close’ cycle was reduced from seven days to 42 minutes.
2. Increased contract size — the company is currently closing an estimated $40 million in contracts per month with usage growing at 20 per cent month on month.
3. Closing more contracts — top salespeople are able to close as many as 10 contracts per day since automating the critical final step — the actual e-signing of contracts.
4. Easy access to contracts — billing is able to access and invoice customer 20 per cent faster.
In conclusion
Despite the potential business impact of contracts, nearly 70 per cent of enterprises still experience disconnects between the processes and organization around contracts, their daily management and also the valuable information that can be gained from them to support optimal business performance.’ — Aberdeen Group
The merger of contract management and sales processes has become a critical component in driving revenue. This alignment process delivers new efficiencies in automation across the contract ‘quote to close’ lifecycle. Organizations that can successfully merge contract management and sales can sell faster, sell more, recognize revenue faster, and deliver visibility into contract status across an organization.
Jason Lemkin,
CEO and co-founder,
EchoSign,
Jason’s operational experience spans the business development, sales, legal, human resource, and finance fields. He previously was an entrepreneur in residence at Storm Ventures; served as president, chief business officer, and co-founder of NanoGram Devices, a nanotechnology pioneer that is now a subsidiary of Greatbatch Inc; a vice president, corporate development at NeoPhotonics Corporation; and senior director of corporate development at BabyCenter.com, the leading internet company in its category and now a subsidiary of Johnson & Johnson. Jason has also served as corporate counsel to leading technology companies at Venture Law Group, and as a management consultant at Pathway Ventures.
Additional reading
‘Contract Management: The Quote-to-Cash Cycle’ Vishal Patel, Aberdeen Group <www.aberdeen.com/summary/report/benchmark/CM_Q2C_VP_3715.asp>.
CLM for SMB: Organization is Key, Christopher Dwyer, William Browning, Aberdeen Group. <www.aberdeen.com/summary/report/sector_insights/4475-SI-clm-smb-organization.asp>.
‘Transitioning Your Contract Process from Artistic to Industrial’ < www.acc.org>.
Legal Precedent for e-Signatures is a Non-Issue, Kristen Noakes-Fry, Gartner Group, www.gartner.com.
‘Market Scope for Contract Management’, 2007, Debbie Wilson, Gartner Group <www.gartner.com>.
‘Management Update: New and Increased Challenges for Contract Managers’
Jack Heine, Gartner Group <www.gartner.com>.
 
 

Six steps to a successful automated KPI program

 
Automation plays a fundamental part in managing key performance indicators (KPIs) and metrics programs. This article discusses the appropriate metrics to consider and implement in your organization, and provides a case study with insights into how an organization has implemented, and benefited from, an automated KPI/metrics program ASHIF MAWJI, UPSIDE SOFTWARE
 
 

by ASHIF MAWJI, UPSIDE SOFTWARE

Automation plays a fundamental part in managing key performance
indicators (KPIs) and metrics programs.
This article discusses the
appropriate metrics to consider and implement in your organization,
and provides a case study with insights into how an organization has
implemented, and benefited from, an automated KPI/metrics program

Main points

It’s never too late to put a KPI/metrics program in place. However,
as you will see from the case study highlighted in this article, you
should not necessarily wait until significant issues have
arisen before doing so.

  •   The benefits are tremendous, not just from an organizational
       improvement stand-point, but also in improved staff morale.
  •   It is very important to narrow down the KPI/metrics you wish to
      monitor and to ensure data can be gathered automatically.
  •   For each KPI/metric, there are six elements (discussed below)
      that you need to assess and document.
  •   Determine which automation method is best for your
      organization — don’t stop at just KPI/metrics management; there are
      other elements pertaining to contract management that are relevant;
  •   Implementing a KPI/metrics program is not a one-time
      exercise — it needs to be constantly improved. It does take time
      to do this, but the rewards far outweigh the investment.

Some examples of metrics that organizations measure

Figure 1 provides some of the different types of metrics that organizations
may choose to measure. First, it is very important to document the various KPI
and metrics important to your organization. Second, you must determine what
can be monitored (that is, what data is readily available to consume and analyze).
Third, you must establish a timeline of when to include specific KPIs and metrics
into the monitoring phase.

As best practice, it is advisable to start with less than 10 metrics. It is easy
to get caught up in over-monitoring, which could render your metrics program a
failure from the start. Monitoring metrics will take time; therefore, it is critical
to ensure the metrics you are measuring can help your business to be more
competitive and improve its performance.

Six rules for metrics

Who is the owner of that metric (that is,who is responsible to monitor it and,
more importantly, to act on the data to ensure continuous improvement)?
  1. How often will you monitor the metric (weekly, monthly)?
  2. Where will you get the metric data (manual or via a system) and is the source
     reliable?
  3. What is the target benchmark for the metric (that is, what would you consider
     to be a minimum threshold, good performance and exceptional results)?
  4. What is the action plan for each threshold on a given metric (that is, if you
     get results that are below exceptional, what action will you take to improve
     the next term’s result for that metric)?
  5. Who is the target audience for the metric reporting (that is, who will
     consume the metric data)?
How can automation help manage these programs?

The simple measurement of metrics can be a daunting task. Performance data
is frequently locked up in disparate systems and must be normalized before
analysis. Finally, most companies continue to rely on basic spreadsheet
applications for KPI tracking,limiting the ability to analyze large sets of data.
Therefore, it is imperative to automate this process as much as possible. When
identifying metrics, individuals should exhaust all possibilities of capturing the
metric data electronically before agreeing to gather the data manually. Manual
collection is error-prone, and over time will likely lose sponsorship due to the
effort required.


There are numerous ways of automating the capture and reporting of data for
 KPIs and metrics. Some common approaches are:
  1. deploying a commercial off-the-shelf KPI/metrics management system;
  2. deploying a commercial off-the-shelf contract lifecycle management
     solution that also captures and monitors KPI/metrics; and
  3. building a custom in-house solution that will manage the KPI/metrics
     program for your organization.
The first option may be ideal for many organizations if the sole purpose is to
implement a tool that has exclusive functionality for KPI and metrics
management. There are a number of commercial solutions available that will
fulfill this purpose very well. If, however, organizations are looking for a single
solution that has both KPI/metrics management and contract lifecycle
management, then the third option may be more optimal.
 
The second option  is likely to be the best as it will not only look after the
KPI/metrics management, but also fulfill the automation required in your
overall contract lifecycle management. In some respects, KPI/metrics are
related to contracts, be it supply or sales side, or even non-monetary
(such as intellectual property and non-disclosure agreements), and, therefore,
you may as well address both elements with one integrated solution.

The third option is the least favorable approach, as it will likely cost you
more in the long run and will require significant IT investment and resources
to maintain it. As a result, most companies typically default to developing a
simplistic
access-database system that often requires manual data
collection and normalization, and which limits analysis and often varies in
deployment and use throughout the company.

Quite often you will find that the data required to support your KPI/metrics
program will come from various sources, including ERP, CRM and asset
management systems, and possibly even HR systems. Most of the
commercial off-the-shelf systems have robust interfacing capabilities and
can port the data in flexible formats to other line of business systems.
Building and maintaining these integrations is time-consuming and can be
expensive, however, it will likely be cheaper and more accurate than
capturing the data manually.
Automation can help you capture the
metrics/KPI data, perform analysis against the minimum thresholds you
have set, automatically issue alerts when warranted, as well as scheduled
reports to the subscribers. In essence, most of the process can be
automated so that the administrative burden in managing a KPI/metrics
program is kept to a minimum.

Figure 1: Suggested metric measurement categories 

 

Case Study — Canadian government agency

Government agencies are constantly being scrutinized by the public and
quite often the opposition parties, who may look into the detailed
government operations to spot and highlight issues for political gain. As
such, government agencies need to have robust KPI/metrics programs
that can ensure proactive management and continuous improvement.

The example below, a large agency within the Canadian government,
illustrates this requirement. This agency had been written up unfavorably
by the auditor general’s office for poorcontract management processes
and, more specifically, for poor compliance and due diligence. There was
an issue where funding was provided by the agency to a corporation. After
diving deep into the roots of the corporation, it was found to be operated
by a biker gang organization engaged in criminal activities. Needless to
say, the opposition party had a field day with this information and it
caused quite a stir with the public.

The immediate question for the agency was whether other criminal
organizations were receiving funding. Searching for this information in
a manual contracting world would have taken thousands of work hours.
It was evident that what was needed was a KPI/metrics program in
conjunction with an automated contract management and governance
process. The agency purchased and deployed a contract management
system that had a robust KPI/metrics management module. One of the
metrics was designed to perform an organizational ownership search to
ensure that funding was only provided to appropriate organizations. The
other metrics measured cycle time and efficiency, as these were areas
highlighted in the auditor general’s report. Two years after implementing
this program, the auditor general’s report provided numerous
compliments to the agency on the improvements made. The agency is
now rated as one of the best-performing for contract management and
governance.

Lessons learned

A well-defined KPI/metrics program can help an organization improve
its compliance and governance objectives, as well as ensure good staff
morale. Employees want to do the best they can and you must ensure
they have the right tools and sponsorship. They also need to know how
they are performing and where they can improve. When staff can get
concrete evidence about how they are performing and can demonstrate
improvements using factual metrics, naturally morale improves and they
feel good about themselves. In this specific case, based on the metrics
implemented, the organization went from being rated as poorly
performing poor in contract management to being one of the best, and
the employees’ morale was boosted — it was like winning the
Stanley Cup (in Canada, that’s the holy grail in hockey).

All of these elements are addressed through a well-planned KPI/metrics
program. It is important to leverage automation in administering this
program to ensure accuracy and efficiency, and to reduce administrative
burdens.

Ashif Mawji
President and CEO, Upside Software Inc.
Provider of contract lifecycle
management software,
Email:
ask@upsidesoft.com

Upside Software is the ‘2007 Supply & Demand Chain Executive
Top 100 Company & 2006 Deloitte Fast 50 Company’. Ashif was
named the Entrepreneur Year by the Business Development
Bank of Canada in 2007 and also the 2002 Ernst & Young
Entrepreneur of the Year® recipient
(Prairies Region — Young Entrepreneur),
ranked as Canada’s Top 40 under 40TM (2004),
he is a member of the Financial Executives International and
was recently awarded the Queen’s Golden Jubilee Medal.

 
 


 

Converting the construction industry’s ‘disputes potential index’ into a ‘success potential index’ for any kind of business relationship

 
In my article in the December 2007 issue of Contracting Excellence (Zero disputes? P 11), I reported on the remarkable success of the construction industry — the most adversarial of all industries — in developing collaborative tools that actually prevent and control disputes. The article described some of the most well-known of these tools, and how they can be successfully adapted for use in preventing disputes in any kind of business transaction or relationship. Because of space limitations, that article could not describe all of the innovative dispute prevention tools that are used in the construction industry. One of those, the ‘Disputes Potential Index’ (DPI), is particularly relevant to this current ‘Measurement’ issue of Contracting Excellence.  JAMES P GROTON Sutherland, Asbill & Brennan LLP (Retired)
 
 

by JAMES P GROTON Sutherland, Asbill & Brennan LLP (Retired)

Main points
        The construction industry has invented a ‘disputes potential index’ that serves as a ‘cholesterol test’ of the health of a construction project.
        The essence of this index is a series of questions that inquire into whether the parties are using best practices to establish their relationship.
       Parties to any business relationship can adapt the principles of the disputes potential index to fit any transaction.
     Although originally designed as a dispute prevention tool, the disputes potential index can be converted into a ‘success potential index’.

The DPI, a measurement tool developed by the Construction Industry Institute (CII), is one of the most innovative dispute prevention tools that the construction industry has yet developed. It is a predictive tool that is designed to identify the presence of problem-prone characteristics in the creation of project relationships, measure them, and report the results to the participants in the project so they can take corrective action at the commencement of the relationship to prevent disputes.
The DPI consists of a self-administered questionnaire which asks a project leader to answer critical questions about the upcoming project. A computer program processes the answers, analyzes them, and calculates two sets of numbers:
  • first, an overall numerical rating indicates generally whether the project is likely to fall into the good, bad, or average range with respect to overall potential for disputes; and
  • second, an individual score for each of eight key project variables, to identify particular areas of the project that have the greatest potential for breeding problems and disputes.
Although a project might have a favorable overall DPI score, the detailed results might reveal that the project is quite vulnerable to problems in a particular area.
While the DPI is an individual ‘self-audit’ tool that reflects the results of only one person’s responses to the questionnaire, the cumulative results of collective self-audits by a variety of project team members can provide a comprehensive and balanced evaluation of the project’s potential for disputes.
The DPI diagnostic tool serves several useful purposes, particularly when it is used at the commencement of the project relationship:
  • The results of the DPI provide a ‘reality check’ to project members so they can take corrective action to straighten out potentially-harmful characteristics of the project before they generate problems. Thus, it serves as a ‘cholesterol test’ of the health of a construction project.
  • The mere exercise of addressing the questions in the DPI program requires project team members to thoughtfully and realistically analyze the critical attributes of the project that are addressed by these questions. The carefully-designed questions remind them that there are certain recognized ‘best practices’ that should always be considered at the threshold of any project, and encourage them to re-examine any best practices that might have been overlooked in the initial planning and organization of the project, lest the violation of those practices results in problems that breed disputes.
  • The exercise of answering the questionnaire requires team members to ‘look ahead’ and think about the future of the project, encouraging them to forecast and recognize potential problems and trends that often lead to disputes. This is a step that many people just entering into a relationship may overlook in the euphoria and enthusiasm of embarking on a new project.
  • If key personnel from all organizations involved in the project relationship answer the DPI questionnaire, they can compare their respective evaluations of the project’s potential (as reflected by their DPI scores), use that comparison process as a team-building exercise, and then collaborate to correct any perceived project problems that might generate disputes.
  • The DPI’s numerical measurements that quantify potential problems can command attention in a competitive business environment where leaders of projects demand empirical justification for making decisions. As a practical matter, once these measurements become known they are hard to ignore.
  • When used periodically at various stages throughout the life of the project relationship, the DPI results can provide benchmarking data that will give an even more comprehensive and progressive evaluation of the health of the project.
An unanticipated by-product of preventing disputes
As the DPI identifies not only those problems that can cause disputes, but also those that can interfere with the ultimate success of the project, it actually serves two functions. If the parties can correct the kinds of problems that might lead to disputes, they will also improve their chances for the ultimate success of the project. Thus, it can also become a ‘success potential index’ (SPI).
Applying the principles that underlie the DPI to develop successful business relationships
While the questions in the DPI questionnaire were developed specifically for evaluating construction projects, many of the principles that underlie the DPI can be put to good use when entering into any type of business relationship.
Examination of the ‘useful purposes’ of the DPI listed above suggests that many of them can also be achieved at the threshold of any kind of business relationship (or, for that matter, any kind of relationship). One of the models for the design of the DPI questionnaire came from outside the construction industry, and even outside the business world, as explained by the principal researcher who developed the DPI (Diekmann, J E, Disputes Potential Index (1994), Construction Industry Institute Research Report SD-101, p 11):
One common analogy for the DPI we envision is the ‘compatibility test’ found in popular magazines. Couples can assess information about one another before they marry, enabling them to make decisions or change variables to increase their level of compatibility. The information is unique to each couple and may help them to avoid future problems …. They alert the test takers of communication problems or other such troubles.
If popular magazines can devise questions for a ‘compatibility test’ to help individuals evaluate their potential to have a successful relationship, then surely knowledgeable business people should be able, with a little thought and imagination, to develop their own lists of DPI test questions which will identify the key factors that lead to success in the particular type of business enterprise they are considering.
Most of the questions in the CII’s DPI deal with issues that are fundamental not only to construction projects but to almost any business relationship, such as: the two parties’ previous experience and success with the particular type of project; the perceived capability of their respective management teams and the effectiveness of their respective responsibility structures; whether the scope of the project and its technical details are appropriately defined; whether risks are allocated to the party best able to manage those risks; and whether operating and communicating procedures are reasonable and appropriate.
As an example, imagine that an industrial company in the US wishes to outsource all of its ‘back office’ functions to an independent support contractor in India. In order to evaluate the viability of the proposed venture, the employer and the support contractor could each make an effort — in advance of entering into a contract — to define the scope and objectives of the proposed venture, evaluate its own ability and the perceived ability of the other party to perform all of the functions that will be required to make the venture successful, prepare a list of questions covering all of these attributes, and answer those questions to the best of their ability. Next, both parties could meet, exchange their respective lists of questions and answers, and together develop the ideal profile of the venture, its functions and proposed operation, including the kinds of competencies and functions that each party to the venture should have and perform, and mutually develop a contract and operating procedures that will accomplish all of the objectives of the venture. Such an exercise should identify in advance any impediments to the success of their venture.
Practical implications
Before embarking on any long-term contractual relationship, both parties should measure the project’s potential for success by going through a two-stage process.
       First, each of them should individually ‘look forward’ to identify and make a list of all of the functions, essential attributes and objectives that the venture should have; identify the particular role that each party should perform; and try to forecast exactly how the venture should operate, using their own business expertise and past experiences to identify any special risks that the venture might have to contend with.
      Next, the parties should meet, exchange their lists, and then develop a common profile of the venture, its functions and proposed operation, including the kinds of competencies and functions that each party to the venture should have and perform.
      The end result of this exercise should be the creation of a contract that represents a true meeting of the minds, together with the development of a team spirit with mutual understanding and trust, to form the foundation for a mutually profitable and successful relationship — in effect making this exercise a success potential index.
James P. (Jim) Groton, LL.B, FCIArb, FCCA, Fellow of the Chartered Institute of Arbitrators, Fellow of the College of Commercial Arbitrators).
Email: jim.groton@sablaw.com.
Jim is an arbitrator of international construction disputes and an advocate of adapting construction industry dispute prevention and control principles and techniques to other industries and business relationships. He is active in the work of the Dispute Resolution Board Foundation and in dispute prevention work for the International Institute for Conflict Prevention and Resolution. He is a retired partner of Sutherland, Asbill & Brennan LLP.
 
 

Creating better service level metrics

 
This article examines the common issues that cause SLMs to fail as well  as recommendations for addressing those issues. IAN S HAYES, Clarity Consulting Inc.
 
 

by IAN S HAYES, Clarity Consulting Inc. 

Main points
        To have value in a service level agreement (SLA), a metric must contribute directly to the assessment of the service’s ability to achieve the desired business objectives.
         Many sourcing arrangements invest considerable resources collecting and reporting on metrics that have marginal value at best. Worse yet, poorly selected metrics can actually motivate behaviors that are detrimental to the success of the sourcing arrangement and its ability to deliver desired business results.
       Even the right metrics are useless if not set correctly. A service level agreement contains both metrics and targets. Setting the target too low fails to gain the desired business benefits, while setting it too high sets the relationship up for failure.
       Choosing the right metrics early in the sourcing evaluation process allows time to verify the metrics against past performance, collect historical data for setting targets, determine the best collection metrics and include the use of the selected metrics and targets as a requirement in the request for proposal.
        Managing to a service level agreement is a continuous effort that requires monitoring and adjustment through the entire life of the contract.
       Ensure the contract for the service contains a mechanism that facilitates regular reviews and updates of the service level agreement with minimal renegotiation. Consider how business circumstances could change and how those changes would affect the SLA and its metrics.

The importance of good metrics
To reduce costs and drive faster growth, companies are increasingly turning to sourcing partners for a wide array of services. Given their importance to business operations, companies manage sourcing arrangements through complex contracts that contain detailed statements of work (SOWs) describing the services and deliverables to be provided and SLAs that use metrics to describe desired performance standards and a framework for monitoring the ongoing delivery of the service. When chosen wisely and implemented correctly, service level metrics (SLMs) are an invaluable governance tool. They can provide:
  • precise delivery standards for service attributes, such as quality, responsiveness, and efficiency;
  • an objective means for determining if ongoing performance meets expectations and a basis for triggering rewards or penalties based on that performance;
  • valuable trend and operational data that enables the rapid identification and correction of issues;
  • a foundation for making informed adjustments in service delivery to meet changing business requirements; and
  • a powerful means for extracting greater mutual business value from a sourcing arrangement.
Unfortunately, SLMs rarely deliver these desired benefits. Many sourcing arrangements invest considerable resources collecting and reporting on metrics that have marginal value at best. Worse yet, poorly selected metrics can actually motivate behaviors that are detrimental to the success of the sourcing arrangement and its ability to deliver desired business results.
Why SLMs fail
Despite their value and importance, SLMs are all too often an afterthought when negotiating a services agreement. Whether due to lack of time, math phobia, a dislike of being measured or a simple unwillingness to invest proper effort, the metrics in many SLAs are rudimentary and fail to provide any real value to either party in the sourcing arrangement. Typically, the value of an SLA is compromised by one or more of the following issues.
Wrong metrics
Companies enter into service arrangements for a single purpose — to further one or more business objectives. For example, the goal may be to cut costs, better serve customers, reduce risk, streamline operations or gain capacity. To have value in an SLA, a metric must contribute directly to the assessment of the service’s ability to achieve the desired business objectives. For instance, if the goal is to streamline operations, the metrics should measure the service’s improvements to operations.
Typical mistakes when choosing metrics include the following.
         Going for ease of measurement first: the chosen metric may be easy to obtain, but it has only a tenuous relation to the underlying business objective.
        Not considering collection and analysis effort: too hard is as bad as too easy; if a metric takes too much effort to understand and use, it will fall by the wayside.
         Not identifying how the metric will be used: metrics must provide actionable information. If a change in the metric data (good or bad) doesn’t point to an obvious action, it is a useless metric.
         Measuring attributes outside of the control of the service provider: the metric may be interesting, but it won’t motivate better service.
        Picking a metric that is not clearly defined: if a metric’s definition and collection methods are open to interpretation, it will become a source of dispute at some point in the contract.
         Selecting boilerplate metrics that do not have a close relationship to the business being serviced: the generic metrics suggested by analyst organizations and found on the web can be a useful starting point, but are too generic to be meaningful without customization.
       Using the vendor’s metrics by default: although a vendor-provided SLA may contain some valuable metrics, remember that they are skewed towards their own business objectives — enhancing profitability, selling additional services, and lessening the risk of service penalties. Vendors prefer using metrics and setting targets that ensure their delivery looks successful.
Wrong target settings
Even the right metrics are useless if not set correctly. An SLA contains both metrics and targets. For example, a call center metric may be ‘calls per representative per hour’ and the target may be set to 15. The service provider is judged (and may be rewarded or penalized) by its ability to meet the target. Unfortunately, companies often lack previous performance history to set the targets properly. They rely on estimates (or guesses) or set metrics for what is desired (ideal) rather than what is achievable. Setting the target too low fails to gain the desired business benefits, while setting it too high sets the relationship up for failure.
Insufficient metrics to support sound decision making
Simplicity is a valid objective when choosing metrics for an SLA, however, too many managers want only ‘a few key indicators’. These metrics may be useful, but they don’t supply the entire picture or assist in troubleshooting when things go wrong. For example, relying on the speedometer in a car as a primary indicator works great until you run out of gas.
Improper setup and infrastructure to support metrics usage
Like any other tool, metrics require an investment of time, education and resources to be effective. If an organization is not willing to invest in the necessary set up and infrastructure to manage its SLA effectively, it should not bother to negotiate one in the first place. All too often, SLA reporting is a burdensome overhead activity that produces reams of cryptic, number-filled documents that pile up unread in cubicles.
Managing to an SLA is a continuous effort that requires monitoring and adjustment through the entire life of the contract. Once in place, someone in the organization must be responsible (and held accountable) for managing the vendor’s performance to its terms. Planning for and implementing metrics collection, analysis and reporting processes (and automation wherever possible) is essential to reduce overheads and encourage use. The business owner of the services arrangement must be trained on how to interpret and act upon the metrics data and held accountable for doing so.
Misused penalties and incentives
Performance penalties and incentives can be powerful motivators in the right situations, but can quickly poison a service relationship if misused. Unless thought through carefully, they can motivate the wrong behaviors and set up a relationship that is contentious from the start. To work properly, both the metrics and their settings have to be correct and incentives must be firmly aligned with the underlying business objectives.
Over-emphasis on cost
A service arrangement may be sold primarily on business benefits, but somehow, by the time the arrangement is codified into an SLA, the metrics assess performance almost entirely on cost. Part of the issue is the ease of measuring cost (see wrong metrics above). Also, the team assembling the SLA may be unaware of the original underlying business objectives. Before skewing an SLA too heavily to cost, ask if cost-cutting is really the overarching objective. Often, the goal is ensuring the efficiency of the arrangement (that is, the unit cost of the contract should go down over time). As such, the actual cost may vary depending on the volume of service the business needs and may validly increase if the service is successful.
Metrics and service lifecycle phase
The effort and methods needed to establish an effective SLA are quite different depending on the lifecycle phase of the services arrangement. Obviously, the earlier service levels are considered, the better; however, organizations should attempt to establish healthy SLA management practices in all measured services arrangements, regardless of the phase.
At the start of the sourcing process
In an ideal world, SLMs should be part of the initial planning before sourcing a services contract. Choosing the right metrics early in the process allows time to verify the metrics against past performance, collect historical data for setting targets, determine the best collection metrics and include the use of the selected metrics and targets as a requirement in the request for proposal (RFP). Incorporating metrics selection early in the decision process puts a strong emphasis on identifying the business objectives the services are expected to deliver and thinking through how performance to those objectives will be judged. Including the metrics requirements into the RFP ensures the vendor knows and is committed to achieving those objectives if they wish to remain in the bidding process. With expectations clearly set, measurement and assessment can begin as soon as the services are initiated.
After negotiation
All too commonly, the basic business terms of an engagement are decided and negotiated before SLMs are considered. The parties on both sides of the transaction are eager to begin the arrangement, and the SLA is negotiated quickly as a contract addendum. This situation is far from ideal, but it is still possible to create a successful SLA if the following points are followed.
         Don’t defer the SLA negotiations until after the project starts. Given pressures to start quickly and having little historical data to serve as a baseline, companies succumb to vendor suggestions to ‘get a little experience first …’ before attempting to define the SLA. This approach works completely to the vendor’s benefit. Either the SLA will be forgotten, or it will be based on the vendor’s own metrics and target levels.
        Don’t rush. Resist pressures to move quickly; instead, spend the time to pick the right metrics and targets. Although some flexibility has been lost by not starting earlier, SLMs can still reflect the business terms of a negotiated arrangement. Spend the effort to verify the chosen metrics by researching historical performance or through internal experimentation.
         Set up a contract mechanism to permit renegotiation as experience is gained. Putting a stake in the ground with the organization’s own metrics and targets provides negotiation leverage once the services arrangement begins and more data becomes available. Use this data to reset the SLA fairly for both parties.
An operational service engagement with an existing SLA
When a services arrangement is in full operation with an existing SLA, making adjustments presents a series of challenges. Usually, the arrangement is not functioning as well as desired; otherwise, there would be little pressure to revisit the agreement. The existing SLA likely has many of the issues described in the first section of this article. If the existing metrics don’t work for either side, the vendor may be open for a total renegotiation of the agreement. However, if the existing agreement favors the vendor (and they are performing well by current metrics and targets), they will resist making changes despite engagement issues, unless they get financial or other concessions.
The underlying cause of this situation is the use of metrics that are not adequately tied to the business objectives of the engagement. The vendor is meeting or exceeding the negotiated agreement (measured against metrics that don’t reflect true value delivery against objectives), but customer satisfaction (a strong measure of value attainment) is poor. Turning this situation around requires replacing the existing metrics and setting new targets that are acceptable to both sides, and that better reflect the business intentions of the engagement. Concessions may be needed to get the vendor to accept the risk of being measured by less favorable metrics. The benefit for both sides is a stronger relationship and a more successful engagement as performance will map more directly to customer satisfaction.
An operational deal without an SLA
The final scenario is an operational engagement without an existing SLA. This situation occurs when a company seeks to strengthen the governance of an existing services arrangement. If at all possible, the SLA should be added at the point of contract renewal, when the buyer has some leverage for renegotiation. Otherwise, the vendor will have to be convinced why measurement is advantageous for them. The best approach is to provide a ‘break in’ period for testing the new standards without consequence to prove the business value of the metrics. and to calibrate vendor performance to allow fair target setting. Offering some incentives, such as bonuses or the opportunity to receive additional projects for good to exceptional performance to the new standards, provides the vendor with tangible business reasons for accepting the SLA.
Seven steps for creating better SLMs
To determine the level of effort that should be spent in this area, consider the size of the services contract and its potential impact on overall business performance. What is the value of a 10 percent improvement in the performance of the services arrangement? What is the cost and impact of replacing that arrangement if it fails? If the answers to the questions are financially significant, service governance becomes essential and investments in service metrics and their supporting infrastructure will be easily justified.
Choosing the right service metrics, creating effective SLAs and managing services using those agreements are topics that can easily fill several books. However, the tips below should provide a starting point when considering a SLMs program.
Start from the business objectives
Forget about the operational details of the service for now — start at the top — the business objectives that are driving the consideration of the services arrangement.
Begin by listing each of the major objectives. For each objective, list how the service contributes to the attainment of each objective.
Next, consider the attributes that assess each contribution. For example, one objective for outsourcing the support of a corporate website may be to attract more prospective buyers for the business. The outsourcing engagement would contribute to this objective by developing an attractive website that encourages more visitors, promotes the company’s products and captures contact information for sales follow-up. These contributions could be measured by the number of people that visit the site, noting the people who examine each product’s information and capturing visitor sign-ups.
Turn the objectives into metrics
To turn the attributes determined above into metrics, consider the following factors.
Are the attributes within the power of the service provider to control or affect? If the attribute is important, but not entirely in the vendor’s control, can it be supplemented with another metric that isolates the vendor’s responsibilities? Would the metrics data from those attributes produce actionable insights? Discard any attributes whose results are merely interesting. Consider the behavior that would be motivated by the metric. If the vendor optimizes performance to maximize this metric, does it improve business performance?
Finally, consider the means of collecting and analyzing the metrics. If a metric is easy to collect, but doesn’t provide value, it is useless. However, a metric that produces significant insight may be worth an investment to collect.
Continuing with the example from above, the bottom-line metric may be the number of new buying prospects per month. However, this number is only partially under the control of the service provider. The other attributes could be measured by the number of unique individuals that visit the site, the number of page views for company products, and the number of online sign-ups for demonstrations and downloads. Over time, these metrics can be statistically correlated against the number of new buying prospects to fully determine their impact. Further, each metric is actionable. If the number of product page views starts to drop, new content and better promotion is needed.
Add operational metrics
Once the business metrics have been chosen, additional metrics are needed to cover the operational aspects of delivery. These metrics fall into four broad categories: volume, responsiveness, quality and efficiency. Using a combination of metrics from each of these categories provides a full picture of service delivery.
Using demonstrations and download sign-ups from our example, the company wants to know the number of sign-ups per time period (volume), the time needed to pass these sign-ups to sales as prospects (responsiveness), the type of person signing up (quality) and cost per sign-up delivered (efficiency). The quality metric ensures that the service provider attracts true prospects as sign-ups — business people rather than teenagers to sign-up (assuming that business people are the company’s target). By dividing the cost of the service against the number of sign-ups gathered, the company gains a measure that enables comparison of the vendor’s performance in driving in prospects against other sources.
Set reasonable performance targets
Each metric should have its own performance target in the SLA. The values for these targets should be based on actual experience wherever possible to ensure they are realistic and achievable.
For example, the company wants 1000 download sign-ups per month, they must reach the sales people by email within 15 minutes of occurrence, at least 60 percent of the sign-ups must be business people, and the cost should not exceed $14 per sign-up. Note that these targets are all actionable and set clear expectations for the service provider. Performance targets can be set to rise over time if the contract includes expected improvements in delivery efficiency. Likewise, incentives (or penalties) can be provided when performance targets are exceeded (or have failed). Incentives should be based on the value of better performance to the company. For example, the company’s sales process may have a very well-defined process for taking buying prospects though to a sale and knows that 100 extra prospects translates into five additional $10,000 sales. In this case, providing the service provider with an incentive to capture more sign-ups is well justified.
Create a metrics definition document
The metrics definition document accompanies the SLA and describes each metric in detail. It describes the intent of the metrics (why was it chosen), how the metric is measured, and how the metric is interpreted. The goal of the document is to ensure that all parties capture, analyze and act upon the metric in the same way. Both sides should use the same tools, formulas and processes for metrics capture and analysis to avoid inconsistencies and disputes. Likewise, the document should describe the specific actions that are expected when the metrics data changes. For example, is a one-month spike of 10 percent up or down a cause for immediate concern? Or should data be trended for three months?
Build the contract to facilitate changes in the SLA
No matter how carefully it is conceived and created, an SLA changes almost immediately new data arrives, business conditions change or the parameters of the service need adjustment. Ensure the contract for the service contains a mechanism that facilitates regular reviews and updates of the SLA with minimal renegotiation. Consider how business circumstances could change and how those changes would affect the SLA and its metrics. For example, What if the company decides it needs separate hosted websites for each of its major international markets? Will that reduce the number of website visitors under the current SLA due to no fault of the existing vendor?
Match SLAs with separate customer satisfaction surveys
Performing separate customer satisfaction surveys of a given service’s internal customers is a critical double-check of both the vendor’s performance and the quality of the SLA and its metrics. If SLA performance meets or exceeds target, yet customer satisfaction is low (or visa versa), the SLA is using the wrong metrics. Mismatches between customer satisfaction data and SLA data can be very enlightening when seeking clues on how to improve both the quality of service performance and vendor relationship.
Conclusion
SLMs can be a very powerful tool for increasing the success of a services arrangement. Choosing the right metrics makes the difference between wasted effort and gaining higher business value from the arrangement. Spending the time to research and carefully select the right metrics before sourcing a services project brings the best results, but organizations can still gain significant value by revisiting existing engagements. Use this document as a starting point for metrics selection and SLA development, but be sure to draw in additional expertise as needed. Gaining the advice of an SLA metrics specialist can avoid many costly mistakes in selection and implementation, saving both time and money while gaining a better end result.
Ian S Hayes,
Clarity Consulting Inc,
www.clarity-consulting.com.
Clarity Consulting Inc. is a management consulting firm specializing in information technology strategies and emerging trends in areas such as outsourcing, IT efficiency enhancement, process redesign, productivity and service level metrics, product and service offering development and IT product and service development.
 
 
 


 

How SLAs drive, and don’t drive, performance: strategic, technical and process limitations

 
If you can’t measure it, it doesn’t exist One of the axioms that grew out of the quality movement was: ‘If you can’t measure it, it doesn’t exist.’ Its more recent derivative, ‘If you can’t measure it, you can’t manage it,’ has direct applicability to SLAs. However, being able to measure a process or service is necessary, but it is not sufficient to be able to manage it. PATTERSON SHAFER, INTRASPHERE TECHNOLOGIES
 
 
by PATTERSON SHAFER, INTRASPHERE TECHNOLOGIES

Main points
       Service level agreements (SLAs) are commonly used to commit vendors to measurable levels of service performance and availability.
        At a minimum, SLAs should be clearly defined and easily verifiable — service performance must be reliably measured and reported.
      Agreed-upon service levels may fail to achieve desired business results due to poor alignment or lack of integrity.
        Parties should be in a position to modify SLAs in the event that original definitions and targets do not meet the needs of the business, or if a change in business strategy dictates new levels of performance.
If you can’t measure it, it doesn’t exist
One of the axioms that grew out of the quality movement was: ‘If you can’t measure it, it doesn’t exist.’ Its more recent derivative, ‘If you can’t measure it, you can’t manage it,’ has direct applicability to SLAs. However, being able to measure a process or service is necessary, but it is not sufficient to be able to manage it.
SLAs are negotiated, contractual commitments to levels of service performed by one party on behalf of another.
SLAs were originally developed for managing performance in Call Centers, and included metrics such as ‘average speed of answer’ (ASA) or ‘first call resolution’ (FCR). The range of SLA metrics grew exponentially when they were applied to IT services, addressing measurable performance in terms of quality, availability, satisfaction, speed or other performance measures.
The goal of an SLA is to guarantee performance of specific services by the vendor or managed service provider (MSP) in support of the customer’s business requirements. SLAs should be distinguished from a packaged ‘solution’ which, in many cases, implies that the vendor takes responsibility for business outcomes. High-level business targets such as ‘improved market share’ can be only indirectly supported by SLAs. However, other requirements, such as supporting price differentiation or delivering on marketing claims, such as, ‘Obtain your free quote within 60 seconds’, may be directly related to achieving guaranteed levels of service.
What is an SLA?
A clear SLA should specify each party’s responsibilities as well as remedies for service levels not met. Service metrics typically include detailed thresholds for performance, availability, quality, and customer satisfaction for each specific service or responsibility. One agreement may specify hundreds of such commitments. The agreement may also reference tangential activities such as invoicing, reporting and auditing. Agreeing on the details of the metrics and targets is time-consuming.
Likewise, an SLA should clearly specify consequences if service levels are not met. These consequences might include financial penalties such as credits or rebates, rework or reengineering of the service, or extreme cases, termination of the agreement.
SLAs should be distinguished from key performance indicators (KPIs). Both are intended to drive desired behavior. KPIs tend to focus more on achievement of strategic objectives than on the quality of the component activities. They are more often handled as targets, and are therefore associated with continuous improvement efforts. On the other hand, SLAs represent expected levels of service and have clearly articulated consequences associated with failure to achieve those levels. In short, KPIs reflect desired performance targets, and SLAs represent guaranteed performance thresholds.



SLAs can be applied to any ‘service’: application availability, server availability, network availability, end-user support, disaster recovery, incident management, provisioning and procurement — any process that is part of the IT service catalog.
SLAs must reflect interdependencies among processes. Achieving SLAs for application performance or availability will be impossible if demand, capacity, provisioning and utilization are not effectively managed. Some examples of SLAs appear in Figure 2.



These examples come from a schedule of SLAs which had over 200 specific requirements, segmented by application priority, business unit, type of service and other criteria. That particular agreement was in negotiation for over six months. Some of the reasons for the lengthy debate appear below.
Why SLAs fail
The two key areas of failure are alignment and integrity.
Alignment is critical on many levels and includes: misalignment of service performance to business strategy, alignment of commitments from your vendors to your commitments to your customers, and alignment of service component to business process.
Integrity issues relate to the failure to clearly define the SLA; a technology failure to capture and accurately report SLA metrics; or process loopholes that allow vendors to shortcut systems, giving the appearance that they have achieved SLAs when they have not.
Aligning SLAs with business strategy
The first consideration is assuring that SLAs are in sync with business strategy. For example, if the service consumer makes a claim that it provides better customer service than its competitors, then logically the systems that support the customer service group will need to support that claim. SLAs must represent higher performance thresholds than the norm, whether in terms of information availability, speed of response or breadth of knowledge. The same applies to commitments for transaction speed, volume or cost. SLAs specifying performance on par or below that of other companies in strategic areas will undermine the value proposition and therefore work against corporate strategy.
True measure of success
Are your SLAs supporting the right goals? Many times companies adopt SLAs because they are generally accepted or because they are easy to measure. A classic example is the IT call center. Typical call center metrics are easy to capture and report, many off-the-shelf solutions routinely publish SLA performance for ‘respond, restore and resolve times’. However, these may distract the IT manager from the true goal of increased productivity and user satisfaction. These business objectives are best achieved by deploying infrastructure and applications that require fewer support calls and incident reports. Companies may waste money on improving the speed of call handling and issue resolution rather than on eliminating the need for calls in the first place.
The service chain — pass-through agreements
SLAs between two companies are frequently part of a chain of SLAs that pass from one part of the supply chain to the next. If a financing company is guaranteeing a credit decision to an automobile dealer within three minutes, then the necessary SLAs between the financing company and its outsourced IT provider need to align with that commitment. Typically, the primary transaction (in this case the credit decision) is the result of several smaller transactions that may include searches and look-ups against outside resources, as well as internal system computations. Those transactions or services are in turn dependant on even more services, such as network connectivity, bandwidth and processing capability. The failure or poor performance of any one will impact on the performance of the primary service.
Business/technical alignment
As a technology customer, I am concerned about the availability of key business systems: email, CRM, supply chain, and so on. SLAs may be application-specific, but may just as likely be targeted towards more service components, such as data center power, processing availability, bandwidth or connectivity. Any application is the sum of these supporting services. For SLAs to effectively support top-tier applications, there needs to be a clear understanding of the application topography — with extra levels of support for any service that represents the critical path of the application. Again, failure to understand this topography renders the SLA meaningless.
Assuring SLA integrity
Vague definitions
Simple agreements are simple to enforce — perhaps. However complexity certainly muddies effective management of SLAs. Companies justifiably segment requirements to align investment with business criticality. Top-tier applications may receive 100 percent fail-over business continuity protection and enjoy 24 x 7 global support; whereas less-critical systems may specify disaster recovery time objectives of several hours or even days, and 16 x 6 local business hour support. To start, this requires clear identification of which systems (and hidden supporting systems) require enhanced levels of support.
  • Is the managed service provider aware of the list of top-tier applications?
  • Does this list vary from country to country?
  • Does the ‘restore’ clock stop when the business day ends where the problem was first reported, even though offices in a ‘later’ time zones need access to the same application?
These details need to be worked out. Otherwise it will be impossible to enforce the SLA.
Technology gaps
Many metrics are simply unsupported by technology. Application availability and performance is ideally measured by technologies that monitor end-to-end availability throughout periods of required availability. These technologies can be expensive to implement, leaving the help desk as the only indication of availability. Service interruptions may be reported only after repeated attempts to access an application. Slow performance may not be reported at all. At a pharmaceutical company, one SLA report reported acceptable system performance for a global clinical trials database. In fact, users in Europe stopped using the system at 2pm every day because US users were logging on at 9am and bringing systems response to a standstill. Accounting systems routinely report acceptable performance when they are not being used, but grind to a crawl at the end of each reporting period. The SLA addresses overall performance, the service failures at peak use times fall through the cracks.
Process failures
Even sophisticated transactional systems and robust reporting can hide true service levels. Process work-arounds can undermine the effectiveness of SLAs, resulting in sub-standard performance and increased cost to the customer.
Case study
One of the more glaring examples of process failure relates to one company’s incident management process. The vendor had committed to 95 percent achievement of the respond, restore and resolve SLAs. The vendor’s pricing was based upon performance against those SLAs, as well as ticket volume. Missed SLAs mean credits to the customer. Increased volume means increased fees. An internal audit discovered the call center employees would routinely close tickets prior to the service restoration SLA and open new tickets in order to achieve their personal performance targets. This falsely inflated both the ticket respond, restore and resolve time performance and the ticket volume. The customer was losing credits due while paying increased fees for falsely inflated volume. When confronted, call center employees indicated that they had been instructed to close tickets when insufficient information was available to quickly resolve them. Changes to application workflow were implemented to improve information gathering at the time of the initial call. End-users now have to approve service delivery in order to prevent false closings.
Lessons learned
What are the critical success factors for defining SLAs? Rather than run through a long checklist of steps, it’s more efficient to highlight lessons learned..
Devil in the detail
First, it’s important to agree on the details of the full range of SLAs. Vague commitments are easer to reach agreement on, but impossible to enforce. Late changes or additions can greatly impact pricing and provisioning and delay completing an agreement for several weeks or even months. Phase in SLAs when process or technology limitations prevent enforcement.
Common definitions
Agreeing on a concept is easy. Customers and vendors need to have common definitions for SLA metrics — down to units of measure, control limits and source systems.
  • Do business hours vary from site to site?
  • How are holidays integrated into SLAs?
  • What fields in the database will be used for specific calculations?
Manage risk
There are several interdependencies in service delivery that impact a vendor’s ability to deliver against service commitments. Some are under the vendor’s control, some are under the customer’s control, others are impossible to control. Accepting a commitment for service levels where there is limited or no control introduces risk. Where possible, parties should protect against such risk through reassignment of risk or through risk mitigation strategies.
Anticipate change
Changes in the operational environment, such as software releases and upgrades, the number of users, acquisitions or divestitures, will all impact service demand and therefore the ability to perform to agreed service levels. As new services are added, the service catalog becomes more complex — applications may share data centers, server farms, storage and other assets, and unexpected impacts to service availability can result. Be sure that SLAs have the flexibility to accommodate such changes.
Conclusion
Expect to devote significant time and expense to defining and supporting SLAs. Failure to work out detailed definitions and implement reliable reporting technology will undermine any attempt to enforce service commitments.
Practical implications
Some of the key issues to consider include:
      Alignment: Make sure that SLAs align with business strategy and commitments made up and down the service chain.
       Clarity: Make sure all parties agree to the definitions and the reporting mechanisms. Process and technology transparency should be an audit requirement.
        Consequence: Make sure that after the expense of developing and implementing SLAs, they are enforced. Understand the business consequence of a vendor’s failure to meet service levels and match the penalty to the impact where possible.
Patterson Shafer,
Management Consultant,
Intrasphere Technologies,
<patterson.shafer@intrasphere.com>,
<www.intrasphere.com>.
Patterson brings communications, operations and finance experience to strategy development and implementation. Domain expertise includes contract management, business intelligence/performance measurement, business continuity planning, program management, finance, business process reengineering, change management and quality management. He has worked with Global 500 companies in the manufacturing, professional services, financial services and pharmaceutical sectors.
 
 
 
 


 

Measures that inspire innovation

 
Hardly a week goes by without some leading business publication reporting on the topic of innovation, and it’s not hard to find listings of companies that are considered innovators. But why is innovation so important today? And how can business leaders use measurement to promote the kinds of behavior that inspire innovation? This article brings together two major topics that should be on the minds of most executive leaders — innovation and the metrics that help to inspire innovation. BOB TRENT, LEHIGH UNIVERSITY
 
 
by BOB TRENT, LEHIGH UNIVERSITY

Main points
       Innovation, one of today’s hot business topics, needs to work its way into strategic planning and contracting processes. Almost anyone in the company can be a source of valuable ideas.
         Measurement can be a powerful tool for inspiring innovative behavior and in identifying performance areas that are in need of improvement, such as performance benchmarking and rates of performance change. Those particularly tied to supply chain contracts are an ideal way to convey an organization’s requirements and expectations.
       Measurement also allows decisions to be based on objective rather than subjective analysis, while promoting continuous improvement.
      A number of ways to link measurement and innovation are discussed under the heading ‘Metrics which inspire innovation’.
 
Hardly a week goes by without some leading business publication reporting on the topic of innovation, and it’s not hard to find listings of companies that are considered innovators. But why is innovation so important today? And how can business leaders use measurement to promote the kinds of behavior that inspire innovation? This article brings together two major topics that should be on the minds of most executive leaders — innovation and the metrics that help to inspire innovation.
Understanding innovation
Innovation, which involves introducing something new or unique, is one of today’s hot business topics. Not surprisingly, the need for innovation should work its way into strategic planning and contracting processes. If we don’t buy into the strategic importance of innovation, consider, for example, what the effect of a widely reported scarcity of new products in the pipelines of major pharmaceutical companies will have on corporate profits. Innovation has become a strategic necessity, and a lack of innovation has serious ramifications.
Most would say that innovation relates primarily to new product development, and that certainly is a visible and important part of the innovation domain. What we often fail to realize, however, is the breadth of the innovation domain. Almost anyone in the company can be a source of valuable ideas. Table 1 illustrates this with some areas that are candidates for innovative thinking. 
 

Appreciating the importance of measurement
If we accept that innovation is important, let’s review some reasons why measurement, including measures that are formally included in contracts, is a good way to inspire innovative thinking. Few would question the notion that performance measures motivate or cause individuals and groups to act in certain ways (good and bad). It is therefore logical to assume that measurement is a powerful tool for inspiring innovative behavior. Develop the right kinds of measures — including measures that promote innovation — and the chances are good that the right kinds of behavior will result.
Measurement is also helpful in identifying performance areas that are in need of improvement, areas that might benefit from performance benchmarking, and rates of performance change. Measures, particularly those that are tied to supply chain contracts, are an ideal way to convey an organization’s requirements and expectations. Measurement also allows decisions to be based on objective rather than subjective analysis, while promoting continuous improvement. Achieve a performance target and it is a good bet that a new, more challenging target will appear — and require creative thinking if it is to be achieved. There are good reasons for linking measurement and innovation.
Metrics that inspire innovation
The following presents varied ways to link measurement and innovation. Smart managers know that effective measurement is a powerful enabler of the innovation process.
Percent of revenues from products less than ‘x’ years old
Companies that pride themselves on innovation usually have some sort of measure that captures the percentage of revenues that are from new products less than a certain number of years old. This measure supports a culture of continuous renewal, something that becomes critical as product life cycles shorten and new competitors enter markets. Increasingly, companies are pursuing this source of innovation by working directly with suppliers. These companies formally support their early supplier involvement goals through contracting and measurement.
Return on investment
A financially related measure such as return on assets (ROA) may not be on everyone’s mind when thinking about measures that inspire innovation. However, this measure has a unique characteristic. It is a super-ordinate measure, which means no single group, individual, or perhaps even company can achieve the measure without working with another individual, individuals or groups. We know that when people work together, the generation of new ideas is often the result.
Let’s look at an example of how ROA can inspire innovation.
A number of years ago the executive leadership at a raw materials company directed one of its business units to achieve a certain ROA level or risk divestiture by the parent company. The functional groups that affected ROA met monthly to discuss ways to improve the components that comprise this formula. The ROA target became a unifying metric, and new ways of conducting business became a necessity.
The corporate mandate to improve ROA forced different functional groups to search for innovative ways to conduct business. For the first time ever, for example, the procurement group entered into longer-term supply contracts that featured fixed pricing and supplier managed inventory. By working together towards a common goal and pursuing creative practices, this business unit easily surpassed its ROA target, something the parent company has been unable to do.
Savings or revenues realized from employee, customer and supplier suggestions
The time has come for most firms to put ‘suggestion programs’ in place. Thanks to web-based technology, the challenges surrounding these programs are no longer technical. Best-practice organizations measure the number of suggestions they receive, respond to suggestions in an agreed timeframe, and report (and often share) any savings achieved through the suggestion programs.
Developing suggestion programs with results continuously measured, rewarded, and reported can be a cost-effective way to promote innovative thinking. Formal contracts with suppliers can include language that addresses this issue. Failing to encourage ideas across the supply chain is a terrible waste.
Free-time measures
Companies that build their corporate culture around innovation, such as 3M and Google, often offer employees free blocks of time to pursue their unique interests. The hope is that this freedom will spawn unanticipated innovations such as 3M’s Post-it Notes or, more recently, Google’s move into what the company calls ‘cloud’ computing. Cloud computing is a bold attempt to harness the computing power of the largest data centers around the world. A project that was part of a Google employee’s 20 percent ‘free time’ has now evolved into a venture with incredible ambitions. For firms that want to move innovation forward, free-time measures with proper controls offer intriguing possibilities.
Number of patents earned
While measuring the number of patents earned does not guarantee market success (many patents ‘sit on a shelf’), many executives view this measure as a surrogate that reflects the degree of innovation that is occurring within an organization. This measure can be extended to also include patents earned through joint ventures that are formalized through formal agreements.
A good example involves Alaska Airlines. The airline formed an ‘Airport of the Future’ team and charged it with creating a better way to move passengers through its check-in process. The team’s final recommendation was an innovative ‘two-step flow-through’ check-in process that earned the airline a US patent. This patented ‘two-step flow-through’ process yields an average of 42 passengers per hour per agent, over double the check-in rate under the previous system. Other airlines have asked Alaska Airlines for permission to copy this system.
Measures with stretch targets
Stretch targets can be applied in any area where management wants to encourage new ideas and methods, including incentives in supplier contracts that promote the achievement of aggressive targets. Stretch targets are not specific measures per se, but rather a characteristic of measures that can inspire innovation. A defining feature of stretch targets is that no individual or group can achieve the target by adhering to the status quo — stretch targets require new and innovative thinking if they have any chance of being achieved.
Several years ago an automotive supplier created a team to develop its next generation of anti-lock brakes. Reflecting pressure from its OEM customer, the brakes had to be developed in half the time and at half the cost of the previous generation, targets that were formalized within a formal contract. These stretch targets forced the team to approach the product design and development process in entirely new ways. Demanding performance targets required innovative thinking, and the team’s willingness to abandon the status quo meant the difference between project success and failure.
Monthly accomplishment measures
These measures are actually reports of new initiatives, large and small, that are undertaken during a month to improve some aspect of performance. Requiring managers to report what they have done (or not done) in their work area puts a great deal of pressure to search continuously for new ideas. From personal experience it can be quite humbling, not to mention embarrassing to report in front of your peers that nothing happened during the previous month. 
Personal and supplier performance measures
At the employee level, companies should include a line item in personal performance reviews that assesses an employee’s willingness to contribute new ideas. Since most employees pay close attention to how they are evaluated, a metric that assesses their willingness to search for better ways to operate sends a clear message. While this measure often appears subjective, it nonetheless reflects a desire for continuous innovation. The same logic applies to linking formal contract reviews to a supplier’s willingness to contribute new ideas.
Conclusion

Many years ago, the late W Edwards Deming commented that a company can choose not to endorse quality. He also said that a company can choose to go out of business. These sentiments apply as much to innovation as they do to quality management. For many companies, the development of measures that inspire innovative thinking must be a vital part of their innovation and contracting process. The time has come to use measurement innovatively to create a culture of innovation.  

Robert J Trent, PhD,
Director, Supply chain management program, and 
George N Beckwith Professor,
Lehigh University, US.

His book, Strategic Supply Management — Creating the Next Source of Competitive Advantage, was published in 2007. His next book, The Lean Supply Chain — ann End-to-End Perspective, will be published in 2008.  
 
 

Output-based contracts in the IT industry — whose responsibility is it?

 
Originally used within the construction Industry, ‘output-based’ contracts are now winning favour in the IT industry. This was one of the findings of a 2007 survey by IACCM, which revealed that over half of the respondents were already using this type of contract.  MICHAEL PORTER, BLAKE NEWPORT  
 
 
by MICHAEL PORTER, BLAKE NEWPORT
Originally used within the construction Industry, ‘output-based’ contracts are now winning favour in the IT industry. This was one of the findings of a 2007 survey by IACCM, which revealed that over half of the respondents were already using this type of contract.
An ‘output based’ contract is an agreement between a client and a supplier which creates a relationship for the delivery of services or products. The driving force behind the contract is that it focuses on ‘what’ the deliverables are in business terms rather than ‘how’ they should be delivered. By allowing the supplier to perform its obligations with the minimum of constraints, it creates the freedom for a supplier to leverage existing facilities, adapt to new technologies, products or materials giving cost and efficiency benefits to the supplier and enhancing services for the client.
In order to maximise the effectiveness of the output based approach, both parties must seek to remove as many constraints from the contract as possible — for some IT companies this may require a significant shift of mindset!
An output-based contract does not aim to remove all detailed specification, only unnecessary constraints positioning the supplier as the expert and allowing them to decide the best way to do things. For example, a traditional IT service description may state:
The supplier shall provide 10 Unix-based servers running Backup Manager 2000 to be located at the Manchester site and connected to the estate by a 10Mbps network link, maintained by no fewer than two technicians. The backups shall run every night between the hours of 6pm and 6am, and copies shall be kept for one week.
However, under an output-based contract, this is what the actual desired outcome will be:
The supplier shall provide that all of user data is to be recoverable to within one working day, with 99.9 percent reliability. Constraint: backups must not interrupt work during business hours.
Although this example is fairly simplistic, it helps to illustrate the flexibility the contract offers to IT suppliers in terms of a choice of solutions and resourcing. It can reduce risk for clients, as by having the desired business terms outlined, they are less likely to specify the wrong technical details.
Benefits
The benefits that these contracts bring to both sides are significant, and suppliers gain the opportunity to propose innovative solutions and the flexibility to adapt new technologies and existing services to reap economies of scale, which can create significant cost savings — these in turn can be passed on to the client. The management of information also becomes increasingly easier for the suppliers, as extensive reporting of operational information is replaced by succinct reporting at the business level.
As well as cost benefits, maximising the supplier’s knowledge and practices can give greater certainty and lead to higher service levels. The client may also benefit from reduced risk, as by stipulating the desired business outcome, they do not take on the risk associated with technical specifications. In addition, as the respective roles between the supplier and client are more clearly defined, communication between them can be simplified. This was highlighted in the findings of the IACCM survey, where over half of the respondents felt that it not only improved communication, but it also significantly improved performance.
It may seem that output-based contracts are a win-win situation, so why aren’t they standard practice? The main difficulty lies in the increased effort required to define and agree on the terms, over 60 percent of respondents in the IACCM survey felt that this was especially true because business requirements were notoriously hard to define. There is also a perception with the output-based approach that ‘If you do not specify the precise service you want, you will not get it’.
Implementing an output-based approach
In order to ensure that the business deliverables are met, output-based contracts should be underpinned by carefully chosen performance indicators or service level agreements, with a focus on restricting service levels to the key business areas. Service levels play an important role in supporting output-based service descriptions in that they drive the quality of delivery. By specifying the ‘what’ and then setting a performance target for its delivery, the supplier is then responsible for designing ‘how’ this target can be met. This is fundamental to the output-based approach.
The approach relies on clients trusting that the risk has passed to the supplier and will fail if a client seeks to add extra assurances not directly related to business goals, as the supplier will quickly lose cost savings and be forced to apply more constrained pricing. In order for this practice to work effectively, careful contract management is needed from the start. Ideally, the people negotiating and drafting the contract terms will be experienced in the output-based approach, so that constraint can be achieved while maintaining sufficient detail to have a workable agreement. This includes a strong commitment from the client to invest the time and human resources during the pre-contract phase. However, it is worth noting that a key benefit that arises from expending the effort to truly capture business requirements, is a greater understanding of them.
The responsibilities fall upon both parties. Clients should be prepared to take the time to clearly define what their key business terms are be prepared to undertake a more ‘hands off’ approach, which may require a culture shift in some organisations. However this should not mean that the client is deprived of key performance information or progress updates. In order for suppliers to make sure that they are clear on the IT solution to be delivered, they should ensure that every point at which client input is needed is drafted into the contract.
Output-based contracts can be rewarding for both parties, allowing each organisation to focus on what they do best. An open and trusting relationship is needed between client and supplier, supported by careful contract management, ensuring definitions of business and performance measurements are clearly defined and backed up with a service level agreement.
Michael Porter,
Associate Director of Commercial and Contract Management,
Blake Newport,
www.blakenewport.co.uk.
 
 


 

From the front line

 
Your Letters and Questions
 
 

Why are we afraid of measurements?

This note came from a manager, trying to drive an improvement project in a large corporation:
"Measurement has always been a challenge for contract management to create a management dashboard. In all my previous companies this measurement was not a high priority area as the business case for other areas was stronger. But, I am glad that my current company has made it a high priority area, although they are not very optimistic of the results.
I have taken an approach of using the quality methodologies to study the presales, sales and marketing, legal, project delivery, project maintenance process and procedures. The study shall give certain meaningful database. Another database shall be created by risk analysis of the contracts at clauses/ sub-clauses level. These databases, when read with the company policies and international standards, may give a dashboard that can detect, prevent and predict according to the management’s goals and objectives or judgments and assumptions.
According to me, the biggest hurdle in creation of a dependable dashboard has been the legal team seeing the contract management process in isolation. They have not succeeded in integrating other process equations which either feed contract management or [where] contract management feeds them."
This resistance to metrics is at the very least unfortunate — and is a key factor in preventing management seeing real value from the process. Without such data, it is of course viewed as a transactional activity — as good or bad as the last story they heard. And, unfortunately, many of those stories are negative. IACCM's response was as follows:
"I endorse your comments. In part we face the challenge of strong internal parties resisting discipline or change because they feel secure in their traditional “professionalism” and able to protect themselves based on external “fear” issues, like regulation and compliance. That in itself suggests an inadequate understanding of risk management — it seems like a very risky strategy for self-preservation!
I have a range of metrics that I recommend to get things started. At this point, many of these are directed at information gathering so that broader change initiatives can be identified and evaluated. For example, what do we spend most time negotiating? What are the most frequent internal roadblocks on review and approval? What are some of the key deal outcomes and what factors in the bidding and contracting process influence those outcomes (good and bad)?
Measures of this type can range from things like levels of discount through to failure to meet commitments or percentage of errors. Many times these “outcomes” track straight back to business policies or offering strategies owned by legal, finance or product management. The complexity (lack of quality) comes out in the contracting process — and by capturing this, we can use the process as a driver for core improvements (waste elimination) around the business more generally.
Measurements — far from being threatening — are in fact a source of fascinating new ideas and approaches through which we can enrich our jobs and raise our strategic value. I wish more of our community shared my excitement!’
Tim Cummins’ Commitment Matters blog tcummins.wordpress.com
 
 


 
 
 

Editor
Kerrie Tarrant

Consulting editor
Tim Cummins, CEO, IACCM

Vice President of Research and Advisory Services, and Advertising Sales enquiries
Katherine Kawamoto

Editorial Panel
Mark David, CommitMentor, UK.
Rose Gazarek, BAE Systems, US
Craig Guarente, Oracle, US
Helena Haapio, Lexpert Ltd, Finland
Christof Hoefner, IBM, Germany
Bruce Horowitz, Attorney/Arbitrator, Ecuador
Doug Hudgeon, Macquarie Bank Ltd, Australia
William Knittle, BP, UK

Automation and technology panel
Mark Darby, Alliantist, UK
Ashif Mawji, Upside Software Inc, Canada
Tim Minahan, Procuri, US
Terry Nicholson, Selectica, US

Address: International Association for Contract & Commercial Management (IACCM), 90 Grove Street, Ridgefield, CT 06877 USA. Ph: (1) 203 431 8741, www.iaccm.com.

Editor: ktarrant@iaccm.com; Sales enquiries: kkawamato@iaccm.com.

This issue may be cited as (2008) 1(3) Contracting Excellence.

Disclaimer

This newsletter is intended to keep readers abreast of current developments in the field of contract and commercial management. It is not, however, to be used or relied on as a substitute for professional advice. Before acting on any matter in the areas, readers should discuss matters with their own professional advisers.

This site is provided by IACCM on an 'as is' basis. IACCM provides this web site as a service to those people seeking contracting and commercial news and information. IACCM assumes no responsibility for consequences resulting from the use of information on the site or information obtained through links. IACCM will not be liable for any damages of any kind arising out of use, reference to, or reliance on any information contained in the site. IACCM is not responsible for the accuracy or content information contained in the site or in the links provided on its site. Links to and from IACCM do not constitute an endorsement by IACCM of the parties or their products and services.

Copyright

The content in this publication is copyright. Excepted as permitted, no part of this publication may be reproduced by any process, electronic or otherwise, without the specific written permission of the copyright owner.

All content included on this site, such as text, graphics, logos, button icons, images, audio clips and software, is the property of IACCM, or its content suppliers or an identified third party and is protected by international copyright laws. The collection, arrangement and assembly of all content on this site is the exclusive property of IACCM and is also protected by international copyright laws. Any reproduction, modification, distribution, transmission, republication, display or performance, of the content on this site is strictly prohibited.

Use of this site

This site or any portion of this site may not be reproduced, duplicated, copied, sold, resold or otherwise exploited for any commercial purpose that is not expressly permitted by IACCM. Unauthorized attempts to upload information or change information are strictly prohibited and may be punishable under the Computer Fraud and Abuse Act of 1986.

   

Published by IACCM, 90 Grove Street, Ridgefield, CT 06877, USA www.iaccm.com