Quick start guide to contract management
A new year brings a fresh opportunity to get control of your contracts, finally. Contracts are often “filed and forgotten.” Sales or revenue generating contracts expire unexpectedly, while expense contracts automatically renew without notice.
You want to get control of contracts to help your colleagues, to grow your organization, and to protect the company. Where do you start when you are staring at so many contracts stored in so many places?
Here are practical steps toward better contract management.
Take stock of contract documents and data
Paper or electronic
Start by asking yourself, “what is the state of our contract documents now?" Many organizations still have the majority of their contracts in filing cabinets as paper documents. There is nothing inherently wrong with the paper filing system for contracts provided that the filing system is well organized and can be referenced by an external system. That means the paper filing system needs an alpha numeric coding system so that your contract management system can locate the document. Some or all of your contracts might be stored and filed electronically. The file format of the document — PDF, Word, image, etc.— is not important. What does matter is the filing system and access controls.
Organized or scattered
Many people think of access controls only as a way to limit who can get the documents. However, access controls should also allow people to get documents when needed. Documents stored exclusively on a personal computer, instead of a network directory, are not accessible to anyone except the user of that computer.
The file structure should communicate how to navigate a large collection of contract records by someone who is new to the filing system. Most filing structures are poorly designed for rapid access. They also depend on each user making consistent decisions about where and how to file documents related to contracts. Should an NDA that results in a contract be filed as a separate agreement or with the resulting contract? Is an amendment separate or related?
Once you understand the file structure, you can map the contract management software to your file system, if it is well organized, or upload those documents for storage and access in the contract management application.
Spreadsheets or notes
Contract management is more than document management. It is also knowledge management. Do you know when every contract will expire? Do you know how many auto renewing contracts you have? The first step toward contract management for most organizations is the contract spreadsheet.
You might, however, keep information about contracts in a notes file or as a contract abstract. Contract notes and abstracts are often stored as separate documents. They might be stored with the contract itself, or in an entirely separate location.
When adopting contract management software it is important to know whether your information about the contract is stored in a spreadsheet or document. If your contract metadata is stored in a document, you will find it difficult to import the historical information about your documents into contract management software. The abstract or notes can be uploaded as a document in the contract record.
If your contract metadata is stored in a spreadsheet, then importing the data is usually easier. You should verify that the data on the spreadsheet is accurate and complete. Contract spreadsheets often fail to identify the location of the contract documents, which means there is no connection between the contract metadata and the actual contract documents.
Contract spreadsheets also do not provide automated alerts for important contract dates. To receive automatic notification of contract expiration and auto-renewal notice dates you should implement contract management software.
Categorize contracts and documents
Having laid your hands on all of your contracts, related documents, and contact information, it is time to organize the contract records holistically. Proper categorization of contracts is critical to demonstrate the value of contract management for senior leadership in your organization. Contract categorization demonstrates your insight into the organization’s financial success and awareness of its risks.
Contract categorization is more difficult than it seems at first glance. First, distinguish contract categories from types of documents. Contract categories should be relevant to the organization and its terminology. Types of documents should apply to each contract category.
For example, contract categories might include:
- sales contracts,
- software licenses,
- real estate leases,
- equipment purchases, and
- service agreements.
To illustrate the difference between contract categories and types of documents, some or all of these types of documents might appear in each contract category:
- pricing schedule,
- insurance certificate,
- statement of work, and
- project plan.
Contract categories vary widely depending on each organization’s business and industry. Document types on the other hand have more consistency.
Contract categories and document types will power your reports and insights about your contract portfolio.
Distinguish revenue from expense
It is also helpful to identify contracts by their relationship to your organization's financial statements. Any contract that relates to revenue should be identified as such. Expense contracts should also get flagged.
Revenue related contracts include, for example, sales agreements, outbound licensing agreements, alliance or distribution arrangements, because they all earn money for the organization.
Purchase agreements, leases, and software licenses are examples of expense related contracts.
While some contracts include both revenue and expense implications, a contract manager should decide what the primary objective of the contract is for purposes of categorization and reporting. Contract management is, after all, distinct from the practice of law and accounting.
Group “contract records”
As suggested above, it is tempting to think about contracts in terms of documents. A "contract" is commonly thought of as a type of document. For contract management software this characterization of a contract is too casual. Think of a contract more broadly as a legal relationship between your organization and another. There are a number of documents that create, maintain, and change that relationship overtime. All of those documents constitute a contract record.
Imagine that you are purchasing professional services from a marketing firm or software development company. There is certainly a "contract" among the documents. Attached to that contract there is a schedule of deliverables. You might also find a pricing schedule, and a schedule of additional products and services available during the life of the contract.
The professional services firm might deliver a project plan as well as interim reports detailing their progress. You might receive insurance certificates as evidence of their professional liability policies. All of these documents are important for the contract record.
Some of these documents will have their own expiration dates independent of the main contract document. Insurance certificates typically expire on terms less than a year.
If during the term of the contract you agree to an amendment of some provision such as the expiration date, you will want to add the amendment document as part of the contract record. Clearly, there is more to a contract than a single document.
Your contract management software should have this relationship between the contract record and the contract documents in its DNA. To become effective at contract management requires organizing your documents along the lines of a contract record.
Capture expiration and auto-renewal dates
Most organizations start managing their contracts professionally when one of two events occurs. First, an important contract expires before anyone realized it would happen. Now the organization must negotiate a new contract from scratch, with the risk that the other party will impose new and unfavorable terms.
Second, a contract with undesirable terms — the price is too high or the payment terms are too aggressive — automatically renews because no one remembered that notice to the other party was required 60 days before expiration in order to prevent the auto-renewal.
In contract management, surprises are bad. Unexpected expiration or unplanned renewal directly affects the financial performance of the organization.
Some organizations try to solve auto-renewal problems by prohibiting auto-renewal contracts altogether. This is not realistic in many industries, nor desirable in all cases. The professional contract manager should begin by capturing the expiration date and the date the notice is due to prevent an auto-renewal from occurring.
Automatic alerts can notify the contract manager of both impending expirations and auto-renewal notice dates.
Focus on rapid results
Contracts are important. It is tempting to solve every conceivable contracting problem at the start of a contract management process. However, an “enterprise-wide” implementation project can easily grind to a halt with too many contributors and not enough ownership.
To get rapid results from a new contract management process, start with a laser focus on the most foundational decisions:
- Where are the documents and data?
- How should we categorize contracts and documents?
- Have we distinguished between revenue and expense contracts?
- Are the documents grouped into contract records?
- Are the expiration and auto-renewal dates clearly identified?
A pragmatic focus on the most important contract management questions can produce exceptional results, even if it doesn't solve every contract management issue.