How to handle contract risk and mitigation of the risk- Good read!

The Contract Said What? Buffering Employees from Contract Risk

By Spiwe L. Jefferson  |  2017-May-30 

After issuing communications training and killing text messages that created contractual obligations for the company, our fictitious legal team at Sunderland Manufacturing thought they addressed their last issue at the intersection of employee behavior and litigation risk. Unfortunately, more problems point to a different area of risk worse than the last.

 

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"Barry, we have a problem,” said Jason Parks to Barry Miles, deputy general counsel of Sunderland Manufacturing. Jason was Sunderland’s trial counsel, discussing a multi-million dollar wrongful death suit by the estate of a plaintiff who allegedly died when his Sunderland pacemaker failed.
“Did our pacemaker malfunction?” Barry inquired.
“No,” said Jason.
“Did we fail to instruct the hospital on its use?” Barry asked.
“No,” said Jason.
“Were we in any way at fault?” Barry asked.
“No. The hospital improperly implanted the pacemaker,” answered Jason.
“So how is this our problem?” Barry demanded, confused.
“Because of this,” said Jason, sliding a document across the table.
It was a purchase agreement between Sunderland and the co-defendant hospital. Barry read the paragraph Jason had highlighted, and turned pale. Sunderland had unequivocally agreed to defend and indemnify the hospital for all liabilities related to the pacemaker, including actions arising from the hospital’s own negligence.
“Who signed this? Did we review this?” Barry demanded.
A lawyer had reviewed the contract and stricken the language. But upon encountering resistance from the hospital, the sales manager had agreed to the provision and signed the contract.
“How many contracts do we have like this? What other risks don’t we know about?” Barry wondered aloud. He needed answers and change was necessary.

What’s lurking in your employees’ files?

Contracts can cause company-wide heartburn. The financial risks of assumed liabilities alone could negatively impact the company’s bottom line and even its viability. But while everyone may agree that unknown risks pose a problem, the extent of the risk may be difficult to quantify. Consider taking the following steps:

• Begin with the Pareto principle: 20 percent of your commercial relationships may generate 80 percent of your business. Your finance team should have this data.
• How many of that 20 percent have formal contracts?
• Of those contracts, how many are current, how many were properly reviewed and approved, and how many can you actually find?
• Of the contracts you can get your hands on, what are the most significant liabilities and how effectively have those risks been mitigated? Sometimes the company negotiates the commercial terms but misses the significance of indemnification or legal warranty provisions.

Target the right employees

Refining your company’s approach to contracts doesn’t require all-employee participation. Target the commercial team leaders responsible for that 80 percent of your business. They will hold valuable insights and be your best allies in transforming organizational behavior.

Define materiality

Not every contract poses a material threat to the business. While the procurement negotiators may get excited about the unit cost of copy paper, the lawyers are likely interested in reviewing only contracts containing certain kinds of risk.

Define these risks clearly. The most effective definitions are not limited to specific contracts, but address target provisions. For example:

• Contracts containing uncapped liabilities or indemnifying third parties;
• Provisions restricting or diluting the company’s ownership or use of its own intellectual property;
• Provisions waiving the company’s right to sue or bring claims against a third party;
• Termination or penalty provisions triggered by your company’s change in control; or,
• Provisions requiring your company’s exclusive use of a particular supplier or distributor.

Tag team

Contract issues are business issues. Consult your commercial teams to understand their pain around contracts. To be truly effective, your solution should address their pain as well.

Establish clear processes

While technology can help, the fundamental compliance challenge lies in establishing clear processes and gaining employee buy-in.

Clearly define your company’s contract lifecycle process, articulating which processes are owned by the business (e.g., commercial terms, negotiation, execution, maintenance) and which are owned by the legal function (e.g., review, approval, termination). While lawyers historically love words, flow charts and diagrams may be more effective in sharing your vision.

Specify who should review what terms, and what guarantees should be approved by human resources. Can you certify that your products are conflict free? Some contracts require certain certifications that may be unduly burdensome for your company to procure. Regardless of what department should have reviewed those provisions, the legal department is often held accountable for ensuring that the right internal stakeholders have touched the agreement.

Almost foolproof

Had Sunderland Manufacturing done all this, Barry would still have the problem of an employee agreeing to terms the lawyer had struck. What to do?

Specify who in the company has authority to sign which contracts, and consider an approval stamp issued by authorized contract reviewers only. Once this seal has been applied to every page of the agreement (including attachments), no further revisions can be made. Better yet, have the reviewer initial and date the stamp so you know whom to consult if questions arise later.

The stamp also signals to the contract signer (who may be a senior person uninvolved in the actual negotiation) that this draft has cleared all required approvals.

Flex your bandwidth

Few nightmares are worse for your business than being forced to send contracts to “legal” for review, only to disappear into that black hole for weeks or months. Train designated outside counsel to handle overflow quickly and be accountable for reasonable turnaround.

Metrics!

How do you know your contracts program is effective? What level of compliance should you expect? How many contracts should you receive? Are there patterns in the business cycle that should inform your planning?

Traditionally a foreign concept to lawyers, business people use metrics to measure everything from annual performance to hourly outputs. Legal departments are increasingly challenged to demonstrate value, and contract compliance lends itself well to this type of measurement.

Resist measuring everything, and only create metrics that track what you need to know, such as:

• Volume of contracts submitted for review (tracking by business unit will reveal compliance gaps that can be addressed);
• Status of contracts, e.g., how many are in the legal department, how many have been returned to the business, how many have been executed, cancelled etc.;
• Review cycle time (not interesting to lawyers but often critical to the business); or,
• Monthly and annual comparisons reveal patterns in the business cycle that influence your contracts lifecycle.

Reference: http://www.accdocket.com/articles/buffering-employees-from-contract-risk.cfm