How to Set Up a Successful Vendor Risk Management Program
How to Set Up a Successful Vendor Risk Management Program

The Benefits of Contract Risk Management with Examples

What is contract risk management? As individuals, we enter into agreements constantly in our everyday lives. The exchange that occurs when we pay for our coffee every morning is in itself an agreement. The party of the first part, referred to heretofore as “drinker,” agrees to pay an agreed amount for the coffee.

The party of the second part heretofore referred to as “barista,” agrees to deliver the coffee as requested and in a timely manner. With the exchange, both parties enter into a relationship and thus both parties have duties and rights that emanate from that non-written contract with its risks and remedies in case of non-compliance.

However, the duration of such contracts is short, the terms are simple and – however painful it might be in the morning to have your coffee order incorrectly filled – the stakes are relatively low. By applying contract risk management strategies, both parties could mitigate any risk involved in their contract.

The world of a corporation can be a lot more complicated of that of an individual consumer, therefore, the need for contract risk management strategies is essential. A corporation enters into numerous agreements constantly, creating the need for something more durable and enforceable than a simple exchange of goods (such as a cup of coffee). For that, a company will execute multiple legally binding contracts to document in full all the intricate details related to a business exchange.

A contract includes fundamental clauses that must be negotiated by the parties in order to achieve a state that satisfies them both. During that process, both parties should assess the risk involved both in the actual clauses agreed upon and, in any concessions, they are making. It is important to consider contract risk management strategies along the agreement process.

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Implications of contract risk management

The task of contract risk management forces the parties to take a step back during the negotiation process to estimate and evaluate their legal exposure, the loss of business opportunities and the extended time invested in the contracting process. Each party needs to review the impact of the contract on its relationship with its current customers, its competitors or the marketplace.

If companies are able to incorporate risk management during their contract negotiations, they will be able to be more efficient and expedient by being able to spot potential risks associated with the legal exchange and minimize them or avoid them altogether.

In order to implement and get the advantages of contract risk management strategies companies must:

  1. Have a good idea of the common risks associated with the kind of contracts they usually sign.
  2. Have records of the majority of risks encountered by the company during their past contractual experiences.
  3. Have an approximation of the financial results of the risks they have assumed in the past.
  4. Have a list of potential risk-reducing approaches to be implemented.

The implementation of contract risk management strategies will help companies to:

  1. Modify contract templates when possible in order to de-risk future negotiations.
  2. Develop a contingency protocol to be ‘automatically’ activated in the event of the occurrence of the risk term/event to minimize its effects.
  3. Improve its processes and implement better practices to avoid the occurrence of errors attributed to its own personnel and actions.
  4. Improve the understanding of all contractual obligations of the company.
  5. Save on direct expenses related to overpayment, delayed payment, litigation, and labor costs, to name a few items.
  6. Save time with an automated contract risk management solution.

Contract risk management should have a bifocal approach. It should employ a simultaneous (“parallel process”) review of the legal risk associated with specific clauses and the financial implications of those clauses in order to make an informed decision as to which risks could be avoided and which ones are necessary to face and the best ways to reduce any impact.

Contract risk management and contract lifecycle management

Contract Lifecycle Management systems have a substantial role to play in contract risk management. This begins with contract creation by enforcing the use of approved legal playbook clauses, even in fallback negotiation situations. It continues by ensuring that contracts always receive the right scrutiny and approvals before signing.

A large part of contract risk management involves understanding the risks of contracts already signed, the role of a Contract Lifecycle Management system continues beyond contract risk management and even increases once contracts are signed. For example, a company that has discovered legal exposure in one contract can use a CLM system to quickly locate all other contracts that contain the same risk-producing language and take appropriate action.

To see how a robust Contract Lifecycle Management system such as ContractRoom can support your contract risk management strategy, contact us today.

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