Tech & Sourcing @ Morgan Lewis

Contract Corner

Our recent blog post, The Rise of Next-Gen Business Process Outsourcing, highlighted the importance of understanding the exciting opportunities and the challenges of next-gen business process outsourcing (BPO) in order to effectively negotiate contract provisions that maximize the benefits of next-gen BPO and minimize the risks. In this blog, we take a look at a few key issues to consider when developing and negotiating a next-gen BPO contract.

Facilitating the Realization of Savings Commitments

A key part of most (okay, all) BPO deals is the projected cost savings. When pitching a deal, vendors may promote a “savings guarantee” or “guaranteed cost reductions.” However, when it is time to contract, the tone may turn to more of a projection which is subject to dependencies, rather than a commitment. So, what can customers do to ensure that savings will be realized and that the business case presented to management holds firm? One aspect to consider is how the savings included in the pricing:

  • Transaction-based pricing: Is the pricing “transaction-based” with the fees tied to volume targets? If so, then the overall fees would typically reduce over time to reflect labor arbitrage and productivity assumptions. Therefore, the “savings” may be built into the fees because the fees reduce while the volumes stay flat. This model may be effective, although assumptions are often tied to the reductions in order to protect the vendor’s forecasted commercial model (for example, a digital transformation project must be completed by a certain date or reap a certain percentage of productivity).
  • FTE-based pricing: If the pricing is “FTE-based” with fees based on the number of full-time employees (FTEs), then the pricing may decrease to reflect labor arbitrage (i.e., lower rates for resources at offshore locations) and productivity assumptions. The parties will need to consider what happens if the assumptions are not accurate or the productivity is not realized and the vendor cannot remove the FTEs as projected. This could materially impact the business case presented to management, with the risk shifted to the customer if additional FTEs are required, unless other mechanisms are built in.

Other savings mechanisms may include standalone credits that the vendor commits to “invest” in as part of the deal. For these mechanisms, consider what the conditions of these investments are (amount, frequency, and outcome of investment) and when they may change and when they are recoverable by the vendor.

Contracting for Transformation Projects

BPO deals can be complex and require a fair amount of documentation—including the master terms and exhibits for transition, scope of services, service levels, exit assistance, insurance, audit, security, and data privacy, among others. Next-gen BPO deals add another layer to traditional outsourcing deals in that there typically are a number of high-value transformation projects that need to mapped out and documented.

In the outsourcing process, it is critical that the transformation workstream is clearly defined and that the transformation projects are treated like other strategic implementation matters. The project documentation should include solutioning, scope, responsibility for hosting and testing environments, third-party software requirements, milestones, deliverables, staffing plans, timelines, pricing, and termination rights.

However, the parties cannot forget that the transformation projects also are part of the integrated deal. The master contract should address what happens if the transformation project goes sideways: what does this mean for the overall deal, including the savings commitments?

We are committed to delving into the issues arising in connection with next-gen BPO transactions. We will continue to explore these issues in future blogs. Stay tuned!