Managing contract risk effectively is a critical process. You will find all information regarding contract risk management in this post.
Every opportunity has risk attached to it in some capacity, and this is especially true in the context of contracts. Risk just comes with the territory of contract lifecycle management. However, you can prepare for contract success rather than run into avoidable pitfalls in your contracting strategies by implementing some commonly used contract risk management tools. In this blog, we discuss all-things contract risk management to provide you and your team an in-depth guide of how to go about managing your company’s contracts with risk-mitigative confidence. This guide is made especially for you if you find it difficult to maintain secure contract practices with a steadily growing contract portfolio. By prioritizing contract risk management, you can avoid and minimize many preventable risks that could potentially cost your organization hundreds of thousands in damages. In the long run, investing in your risk management initiatives ultimately saves you from the financial downfall that comes with risk exposure.
Your average Fortune 1000 company will work with anywhere between 20,000 and 40,000 contracts at all times. Within every contract, there are guidelines laid out that detail the various obligations, partnerships, terms, deliverables, key dates, payment timelines, and more that determine the required actions to be taken per each agreement. One key thing to note is that the inability to track contract terms presents a major contract risk, so we recommend that you strategize your approach to contract risk management with contract management software built for enterprise to make efficient contract tracking possible for all of your organization’s active contracts.
Without an intelligently designed contract risk management strategy, your internal teams will experience unnecessary, preventable difficulties in their day-to-day contract management. Instead of allowing for needless hassles for your legal, sales, and HR teams particularly, set the tone for proactive and preventative contract lifecycle management with thoughtful contract risk management.
#1: Minimal visibility into contract management activities, business procedures and standards, and poor contract data insights during the times you need them most (i.e., negotiations)
#2: Misunderstandings regarding the impacts of specific contract clauses on the organization
#3: Lack of clarity of how the organization’s current contract portfolio will affect the organization’s potential economic growth (or lack thereof)
#4: Increased likelihood of noncompliant contracts and lack of adherence to compliance regulations while carrying out contract management procedures
#5: Inaccuracies and discrepancies in terminology and legal language used within contracts (inappropriate inclusion of various clauses, incorrect dates, missing requirements, etc.), resulting in risk exposure and increased potential for lawsuits
Contract risk exposure can take a significant hit on your company’s bottom line, so rather than treat contract risk management reactively, adopt a preventative, proactive approach to assessing and mitigating risks. It’s commonplace for companies to pay little-to-no attention to contract risks, as they can appear to have less likelihood of risk presenting itself. However, when risks materialize, they have the power to make massive detrimental implications on your organization. The majority of organizations are ill-equipped for managing high volume portfolios containing extraordinarily complex legal agreements. In effect, these organizations tend to settle for less than stellar contract risk management where they only take action when contract risks present themselves.
So… what exactly is contract risk management anyways?
Contract risk management refers to the assessment of contract risks posed to a given company contract lifecycle management portfolio, and then the strategy developed to effectively manage the identified present and potential contract risks. Your contract risk management assessment will pinpoint different areas of contract risk, including but not limited to potential financial impacts of a contract on the company, missed opportunities for new business relationships and deals, legal risk exposure presented during various contract lifecycle stages, etc. An effective contract risk management strategy will identify how much risk each contract contains as well as the total amount of contract risk contains within the company’s whole contract portfolio.
Below, we’ll take a look at some of the most common areas of contract risks and how some of them have direct impacts on one another when they materialize. When payments are late (or ultimately missed!) or when a party violated contract terms, your organization is exposed to contract risk, meaning you could incur damaged to your bottom line as well as business reputation.
Financial risks are perhaps the most obvious and widely discussed risk areas of contract lifecycle management. Risks that pertain an attached monetary loss is defined as a financial risk. When items like contract delivery deadlines, claims, and milestones go amiss and are not completed by dates and payment timelines as defined in the contract, penalties will result. The violation of contract terms poses financial risks, and these violations might look like failure to deliver upon contracted obligations, fulfilling requirements but with low-quality products, and late payments. We recommend notating any auto renewal clauses that might allow for subpar contracts to continue, as these contracts and the losses associated with them could impact your company’s bottom line.
When considering legal risks, think in terms of breaches of contracts that result in legal action. In these scenarios, contracted parties will neglect to deliver upon obligations included within the contract, resulting in penalty clauses coming into effect.
Another legal risk to consider is in light of the contract authoring process. With substandard contract authoring, you run the risk of contract inaccuracies giving rise to lawsuits. An inappropriately designed contract will have glaring issues with clauses. Critical clauses like intellectual property and confidentiality can have extraordinary consequences.
Security risks are those attached to a data leakage or leakage of sensitive contract information, where the public is now privy to private data. How do these come about? Oftentimes it’s due to risky contract storage or lack of data encryption. We recommend encrypting contract data both at rest and in transit – especially your confidential client information and contract data. A lack of data encryption means that you leave your agreements readily accessible to unauthorized users, where they can then steal and leak data as they desire. Take a look at your email communications too. If your email is not encrypted, then you run the risk of contract data being leaked. The most detrimental consequences are those associated with security breaches, as they are typically very high profile and result in additional risks in the realms of legal, finance, and brand reputation.
Brand risks refer to the risks attached to the company’s reputation and public perception. With poor public opinion and negative customer reviews, along with subpar employee morale, bad reviews, and failure to keep up with competitors, your company will develop a deteriorating brand image. Brand risks are typically those that coincide with the results of other risks. Because word travel’s fast in today’s digitally dominant business world, brand risks must be managed with immediacy and intention. Bad consumer reviews can go viral and have alarming implications on your company.
In the case that your typical business operations have deviated from standardized procedures, you run the risk of incurring operational risks for your company’s contracts due to an inability to adhere to internal compliance regulations and requirements. In this light, your internal departments might fail to follow-through upon their responsibilities in terms of contracted deliverables and obligations. Some other operational risks might include deviations of third-party contracts from a company’s standardized templates or inaccuracies in contract terminology and legal language included in a given agreement (assuming the language does not align with standard company language). These issues can result in misunderstandings of contract clauses, and thus, operational challenges and subpar contract performance.
When your contract management procedures fail to comply with standardized government, industry, and/or business regulations, you pose regulatory risks to your contracts. Ensure that your agreements adhere to all industry and government compliance regulations, paying close attention to different standards based on location. You should also keep close tabs on any changes made to industry and government compliance regulations as they come so that you do not unintentionally fail to adhere. Your contract procedures should comply with regulatory requirements, being consistently modified as the requirements are modified themselves. Failure to comply with the aforementioned regulations only results in increased likelihood of lawsuit, financial repercussions, and contract termination.
Today, the majority of organizations are reluctant to adopt a strategic contract risk management plan. In traditional contract risk management, companies will use an isolated contract risk procedure to take care of risks as they present themselves, rather than utilize a standardized practice for contract risks that is used for the entire organization. These one-time contract risk procedures cause inefficiencies. Traditional contract risk management will usually employ manual strategies and risk compliance features only in certain areas of a given business as opposed to companywide. By viewing risk management as a separate entity, you lose visibility and what could otherwise be an all-encompassing view of contract risk that your business experiences. In addition, traditional contract risk management typically fails to address many of the problems associated with assessing contract risks posed to a given business and then developing a contract risk management plan for immediate use.
Now, let’s take a more in-depth look at the problems with traditional contract risk management.
Hasty Third-Party Onboarding
Without standardizing your process for onboarding clients, third parties, and vendors, you increase the likelihood of risk exposure. In addition, you build a process that results in subpar risk profiles of your clients, third parties, and vendors. A disjointed process only creates misunderstandings from department to department, increasing the opportunity for noncompliance.
Unproductive Contract Workflows
Contract lifecycle management is a very detailed process comprised of several required tasks and stages that necessitate the assistance of professionals in several of your internal departments from HR to finance, to operations and legal, to procurement and sales. Because of the interconnected nature of contracts moving from department to department, a lack of integration between these departments can lead to discrepancies in version control, document inaccuracies, and misunderstandings of contract terms. With disorganized, nonstandard contract workflows, your internal teams will run into delays, bottlenecks, and a poor understanding of their responsibilities in the contract lifecycle – all of which are preventable. Instead of allowing for ineffective contract risk management to leave your teams feeling ill-equipped and confused, adopt a data-driven contract risk management approach. Provide your teams with exactly what information they need to know in a readily accessible place in your centralized, cloud-secure contract management system. In this manner, they have all the data they need to make the most accurate decisions based on accurate contract risk assessments.
Substandard Single-Use Risk Analyses
This means that in traditional contract risk management, companies will complete single-time risk analysis on any given agreement as opposed to constantly monitoring the performance of their contracts. Not only is this incredibly unproductive, but it fails to track contract performance and delivery of contracted obligations by each party involved. You lose visibility of which products are delivered as well as the quality of the products. You also lose track of timelines and other relevant contract deadlines, increasing the risk for delivery of substandard products, insufficient product quantity, and postponed delivery, all playing a detrimental role in contract performance.
Manual Contract Storage
Storing contracts in several locations throughout your organization only leads to increased risk. Failure to encrypt your contract data can lead to unauthorized users gaining access to sensitive contract materials, client information, and confidential product data, creating a breeding ground for data leakages, contract breaches, and inappropriate use of private data by these unauthorized individuals. With security risks heightened, you dramatically increase the probability of data loss simply due to substandard manual contract storage.
Insufficient Contract Transparency
Risks are included within the contents of every contract. In the case that an organization works with an exceptionally high-volume contract portfolio without centralization and efficient accessibility of their contracts, they lose transparency and contract visibility, making it more difficult to learn about obligations and deliverables contained in contract metadata. Failure to run accurate contract reports rapidly as well as failure to locate key contract information increases contract risk potential. This can be particularly damaging when contract obligations are left unfulfilled or are not met according to an agreed upon timeline.
Developing a workplace culture that prioritizes contract risk management can support daily contract lifecycle tasks and business operations. Designing such an environment increases internal awareness of constant contract risks, leading to proactive preventative actions. We highly recommend that once you develop your company’s unique contract risk management techniques and procedures that you scale your new risk management strategies organization-wide, giving your involved contract stakeholders the ability to contribute their feedback and ideas to create a comprehensive risk-mitigative plan and culture that benefits every department involved.
Here are some of the main advantages of a well-thought-out contract risk management strategy.
Rapid Identification of Alarming Contracts
Intelligent contract risk management means it’s easy to pinpoint which agreements need some attention. Contracts that may end up having issues are able to be monitored and flagged for obligation and performance tracking. With contract insights, your team can reassess contract risks and take decisive action.
Prevention of Financial Losses
Gone are the days of letting contract risks get the best of your company. By having complete visibility over your contract risk profiles, you can determine what actions need to be taken early on to prevent risk exposure. Prior to risks presenting themselves and causing damage to your organization, you can intervene and prevent financial detriment.
Improved Decision Making
With accessible high-quality contract data, your team can leverage an all-encompassing view of your contract activities and performance metrics to glean valuable insights on the success (or lack thereof) of their contract procedures. This can support them in deciding which future agreements to enter that may be similar. With risk management profile of active contracts, they can determine the amount of loss and risk that the company can appropriately afford.
Keep your teams working in forward motion with improved communication and collaboration. This looks like adopting effective version control capabilities and ensuring each employee understands their role within contract lifecycle management. Optimal workplace collaboration will clearly define actions and tasks to be taken by specific individuals and specific times (often via automated workflows) to build efficiency in contract speed, performance, results, and risk management.
Improved Spend Planning
Creating a workplace culture that prioritizes contract risk management, especially within your finance department, will empower your organization to effectively analyze contract-related budgets with accuracy. In this way, you can properly ascertain what financial losses your company is able to afford. Then, you can selectively enter into agreements that do not pass the determined threshold of potential financial loss. As a result, you decrease potential loss and enhance proactive spend planning organization-wide.
To develop a risk-sensitive contract lifecycle management environment, it’s necessary to implement an enterprise-grade contract management software solution equipped with contract risk management features. There are many contract management solutions on the market today with built-in contract risk assessment tools and AI capabilities to provide a risk mitigative contract management experience. With all-inclusive contract lifecycle management software, you gain full transparency into your contract activities within every stage of the contract lifecycle. In a cloud-based system, you can navigate through contract drafting, negotiations, signing, execution, approvals, and more in a single centralized location. This offers a single source of truth to all of your employees, ensuring that everyone is on the same page regarding where to find exact documents and how to access them. With such a solution, your organization will improve both time-management and cost-efficiency in no time, especially given its included risk management and contract compliance features.
A Consistent Contract Authoring Process
Leverage preapproved contract clause libraries and contract template libraries for the most accurate and legally-compliance contract authoring experience. Contract language is always rather complex, meaning it’s essential to standardize wherever possible when building new agreements. Increase the consistency of language across all of your agreements to minimize risk exposure caused by inappropriate terminology and vague clause language. Clause libraries are an excellent tool for consistency in contract creation, as the library maintains current clauses and updates each one in the event that changes are made based on a changing business landscape and/or compliance requirements. These edits are automatically implemented for the contracts at which they are associated with to ensure compliance at all times.
Decreased Risks When Working With Vendors and Suppliers
In the event that vendors and/or suppliers do not meet performance expectations, it inevitably impacts the resulting performance of your contracts. In your contract management software, you can create detailed vendor scorecards to assess which vendors to continue doing business with. In addition, one key contract risk management tool is known as “optical character recognition,” or OCR for short. With OCR, your system scans standardized documents for specific metadata to notate and flag any problematic items that are present. Now, you can rapidly pull contract metadata from your repository with associated files to edit your documents when discrepancies are present to decrease any risks.
Streamlined Contract Reviews
In light of third-party contracts, it’s essentially to understand the implications that come with contracts created across borders and within various jurisdictions. In this way, a third-party contract might include legal language that is standard to their organization. With contract management software, you can redline these specific clauses that may deviate from your company’s legal contract terminology. You can elect to amend and negotiate these terms prior to contract signature and execution to prevent risks. Today’s AI capabilities in contract management software can even flag and highlight exact clause types to determine proactive risk mitigation strategies moving forward per each clause.
Contract Consistency In the Event of Change
During each stage of the contract lifecycle, there is the inevitable possibility of change in either contract objectives, term length, scope, and other items for the purpose of improving the contract’s performance. Contract management software tools allow you to efficiency amend your contracts, use redlining in Microsoft Word, track contract versions, and keep detailed audit trails. In this manner, all involved internal departments will always work on the most up-to-date contract drafts.
Automation of Risk Analyses
With a predetermined contract workflow following the contract intake and request stage, your workflow automation routes contracts on the right path, taking into account risk analysis and thereby generating detailed risk reports per each contract request. In this manner, your organization can determine guidelines and make the most data-based decisions moving forward with each agreement. Now, your organization can monitor and work through potential risk before they materialize.
Boost Visibility of Obligations and Milestones
Never let an obligation, milestone, or key date slip through the cracks ever again. Configure automated notifications to be sent to select contract stakeholders to ensure that contract tasks are proactively completed, ensuring you have enough time to prepare for negotiations and get the best deals possible. A centralized, cloud-based contract management system empowers your internal teams by keeping them all well-informed of the most recent changes made within contract lifecycles. Automation ensures that contract management responsibilities for your obligations are made known to the correct departments. Now, you’ll never have to stress about accidentally missing an obligation or milestone, which can lead to significant financial consequences.
Making contract reviews a mandatory practice is an excellent way to understand contract risks presented to your company. By ensuring that your contracts are appropriately reviewed pre- and post-award, you’ll be well on your way to contract risk management success. To optimize your contract reviews, you must make sure that each contract is reviewed by individuals that are directly involved – be it internal or external users. Determine exact members within your internal teams designated for contract reviews to assess industrial and organizational compliance. Make mandatory contract reviews a standard practice within your organization by implementing it within your automated workflows to mitigate contracts risks, develop risk assessments, and standardization in your future contracts.
Contract Workflow Automation
It can prove to be difficult to work with contracts pre- and post-award while maintaining accuracy and consistency as you work with numerous internal and external contract stakeholders. In post-award contract management, it can be easy to miss obligations, key dates, and milestones without automated notifications. To avoid confusion and preventable risks, you can configure standardized contract workflows designed for specific contract types, ensuring that your documents are routed to the right people at the right times. Once contract tasks are completed, stakeholders are notified by the software to complete the next action on the contract. With your flexible, customizable workflows, you can also designate specific clauses to your stakeholders, so they are notified whenever a change is made to the given clause(s).
One of the best risk-mitigative features provided by modern contract management solutions is the ability to create automated notifications. With these notifications, you can ensure that contract responsibilities and tasks relating to your obligations and deliverables are completed in a timely manner. Never fret again about forgetting to follow-up with your counterparties. When a contract is nearing its renewal date, both your internal and external contract stakeholders will be reminded ahead of time.
An Advanced Contract Search Tool
Does your company regularly deal with a high volume of highly complex contracts?
Have you ever imagined the hundreds of thousands of details and distinctive clauses contained within a massive contract and clause library?
Or have you ever had trouble locating a specific piece of data within your current contract library?
With the help of a customizable search tool, you can create and save search filters to make finding any detail fast and easy. Find documents and agreements containing certain terms and characteristics so you can locate anything within your contract library. By being able to gather contracts from your library according to a search tool, you reduce contract management risk in several ways.
Leveraging a text-based search feature allows users to locate exact contracts, clauses, and associated documents within seconds out of the thousands of files and metadata contained within their system’s repository. Rather than settle for time wasted manually searching and sifting through your contracts, you can find what you need at the times you need them most – especially during contract negotiations.
Prior to building a new contract draft, we recommend utilizing the text-based search feature and savable contract filters to find previous, similar contracts stored in your software so you can take pieces of what worked successfully in past contracts, and veer away from the contract language or terms that did not perform so well in the past. This allows you to design results-driven agreements based on proven contract results. In this manner, developing accurate and compliant contracts can be done with all the data in front of you, rather than relying on guesswork and hoping for the best with every new contract.
In the case that new contract requirements and compliance standards are presented to your organization, you’ll need to be able to pull specific agreements from your digital repository and make swift changes that align with the changes in regulations. Thanks to customizable, savable filters, you can pull exact contract clauses terms, contracts, deadlines, and other pieces of contract metadata from your system in just a few seconds. This allows you to make quick changes to the contracts needing to reflect new compliance standards.
Contracts of all types, monetary value, and complexity are found virtually in all of today’s leading businesses and organizations. Contracts from licensing agreements to nondisclosure agreements, to employment contracts and property leases, among many others represent some of the most common contracts you’ll likely encounter. Contracts serve to define the foundations of a business partnership or agreement for the delivery of specific goods, services, and/or products. Considering the intricacies of the modern contract lifecycle and all the effort placed into each stage by various contract stakeholders from different internal departments, it’s necessary to define and mitigate present and potential risks and thus, develop an intelligent risk management strategy.
Contracts typically involve two parties: a buyer and a supplier. However, some agreements are made between more than two parties. Throughout the contract negotiation stage and before a given contract is executed, a contract stakeholder must determine if the ingrained contract risks to the business partnership are examined and appropriately addressed by the included contract legal language (i.e., allocation of risk clauses, warranty clauses, etc.) In order to do so, it is essential that your contract drafts are carefully reviewed by a go-to point-person from your legal department. During the contract review stage, you will identify the risks present and the potential risks and then decide if the results of potential risk exposure are within the confines of allowable risk appetite on the part of the buyer. Following this, you will evaluate and design procedures for potential losses that surpass the appropriate risk and loss threshold. With appropriate contract risk transfer procedures, you can gain control over the risk outcomes and their associated costs for your organization.
Risk allocation or transfer can support your organization in determining which parties are responsible for specific risk exposures. With a transfer of contractual risk, you can remove the responsibility of the risk from the individual or party initially responsible for it by transferring it to a counterparty. In the confines of a contract, the transfer of risk is achieved by it’s included clauses. Take limitation of liability and indemnification clauses, for example. It is best practice to design contracts with the ability to transfer risk responsibility to the select party responsible for it, or otherwise, to the party best equipped to manage the results of the risk.
Did you learn something new and valuable about contract risk management and the numerous contract risk management tools available? If so, let us know in the comments section down below!
We hope you gleaned some insights regarding contract risk management tools and how you can improve your risk mitigation strategies for your organization. By adopting an intelligent approach to contract risk management, you’ll save your organization from numerous detrimental effects that coincide with contract risk exposure. If you happen to have any questions or thoughts to contribute, feel free to contact us or leave a comment.
As a Microsoft Gold Certified Partner, we at Dock 365 work to empower your organization’s contract lifecycle management in a way that enhances workplace productivity, internal communication and collaboration, and contract results. Based in Jacksonville, Florida, our team is accessible and readily available to assist you with your contract management questions and concerns around the clock. Our contract management system is easy to use with several features that your team will certainly be familiar with. Built on your Microsoft Office 365 and SharePoint tenant, you can maximize your Microsoft investment and gain rapid user acceptance. Our solution is customizable, meaning you can design it to reflect your company’s custom branding and needs.
Learn more about Contract Lifecyle Management (CLM) Software here.
For more information, we would like to welcome you to schedule a free demo with us today.