How to improve the value of your contracts by remaining vigilant Featured

8:01pm EDT April 30, 2011
How to improve the value of your contracts by remaining vigilant

During the past few years, construction and manufacturing industry survivors have become experts at controlling costs and reducing nonessential assets, and are cautious about expanding operations.

They have also carefully managed their contractual dealings in an effort to preserve customer relationships. In order to maintain these relationships, companies have largely relied on cost cutting to protect profitability rather than raising revenue, says John E. Benko, a member with McDonald Hopkins PLC.

“While all of these efforts were required to survive during the past few years, they have had negative effects,” says Benko. “During the recession, companies quoted and budgeted aggressively to win work necessary to provide essential cash flow. As the economy recovers, these contracts are becoming a burden. Cost cutting and downsizing have left administrative personnel overburdened and, in some cases, unable to properly administer new and existing contracts profitably.”

Smart Business spoke with Benko about how to improve contract value.

What legal rights do companies have to help maximize the value of existing contracts?

All contractual relationships are controlled by the terms of the contract, and each party must understand what the contract includes. Knowing the terms will permit a company to know when a request for a price increase or decrease may be appropriate or allowed.

For example, in construction projects, the contract includes the plans and specifications that accompany the contract itself. If an owner asks a contractor to perform work citing boilerplate language from terms and conditions, the contractor should make certain that the work is included within the project scope.

Companies may have previously simply performed such work without additional compensation. However, when dealing with a contract that was bid aggressively during difficult economic times, it must seek compensation for every potential change.

Likewise, manufacturing purchase orders should be reviewed to determine the scope of the agreement. A careful analysis of the terms and the contracting process is necessary and prudent to determine the real terms of the parties’ relationship, as suppliers may have significant rights of which they were not aware. Requested changes in quantity, design or delivery of product may also open the door for renegotiation.

Course of performance between the parties will also be relevant to a manufacturer’s rights. Customers will argue that if a supplier has performed for years without complaint, this defines the terms of the parties’ relationship. However, course of performance flows both ways. Under certain circumstances, limited resourcing by a customer of some parts may open the door for the supplier to terminate its remaining obligations despite contractual language to the contrary.

Contractors and suppliers should also keep in mind that sometimes the best way to maximize the value of a particular contract is to strategically end the relationship, or threaten to do so, if there is no hope of profitability.

When should companies make claims with their customer?

Early and often. Companies may balk about requesting additional compensation because they worry the customer will get mad that the request was made, or that it will simply reject the request. But so what?

If you have a legitimate basis for seeking additional compensation, make it as soon as it can be properly documented and presented. If you allow the request to go stale, the likelihood of a successful, amicable resolution diminishes dramatically. Moreover, failure to make a timely claim may bar the claim by the timing provisions in the contract, or establish a course of performance that eliminates a claim altogether.

While the customer may reject the request, it is now documented and must be dealt with by both sides. Although the customer’s purchasing representative may feign anger and try to guilt company representatives into withdrawing the request, this does not impact the legitimacy of the claim. It is the purchasing department’s objective to pay as little as possible, and the customer will almost always say no the first time you ask.

Always make your claim or requested price increase as early as practical, and if it turns out that it will harm the relationship more than expected, it can be withdrawn while still obtaining mileage out of the discussion.

What is the most important thing a company can do to maximize contract value?

Recent downsizing has devastated the administrative ranks of most companies, and project management is severely understaffed. However, regardless of the size of the organization, every manufacturing and construction interest should invest in having at least one person designated to make certain that all contracts are being properly administered, including identifying and presenting claims.

Centralization provides a consistent process for contract review and comfort that the company’s position is properly documented, both internally and to the customer. Given how overburdened sales, purchasing and project management staffs are in making certain that projects are performed on time, it is easy to forget about regularly reviewing contracts to make sure the company is being fully compensated and ensuring that claims are timely documented and submitted. Putting the task in the hands of a designated person makes it much more likely that it will get done. Contract review and documentation should be upward looking to the customer and downward looking to suppliers.

While companies are focused on cost cutting, they must commit to designating and preserving staff with responsibility for maximizing contract value in real time, or they will potentially lose more than they are saving. It is far less costly to document requests for additional compensation in real time — and claims are far more likely to be successful if made at the appropriate time — rather than months or years later with the assistance of an attorney who is trying to recreate a claim, and as part of a lawsuit.

John E. Benko is a member with McDonald Hopkins PLC. Reach him at (248) 220-1352 or jbenko@mcdonaldhopkins.com.