Incentivizing Positive Results with Outcome-Based Contracts

1. Incentivizing Positive Results with Outcome-Based Contracts The ultimate value of any good contract is seen in the results it produces. Achieving positive results isn’t only the goal, but the basis of outcome-based contracting. Proponents of these types of contracts say that, when properly managed, they yield a wide range of benefits– including lower costs, time savings and a significant reduction in the need for supplier oversight. An enlightening episode of theContract Heroes podcast took a deep dive into outcome-based contracting and the leading-edge technology that maximizes its value. The discussion featured two experts in contract transformation: Phil Dungey of Deloitte Legal, and Anna Fink-Carratt of Sirion Labs. In his role with Deloitte Legal, Phil specializes in commercial and contract management to help companies discover value in their contracts. Anna became interested in contract lifecycle management (CLM) software through natural language processing, and with Sirion she leverages years of experience in applying AI to real life, practical situations. Deloitte is a strategic global partner of Sirion, and the companies work together to implement digital transformation programs at major enterprises around the world.

2. In the Contract Heroes podcast, Anna and Phil focus on how a combination of the right CLM platform and outcome-based contracts can help companies become more efficient. What is outcome-based contracting? Phil explained that, although the concept has been around at least since the late 1980s, there recently has been a resurgence of interest in outcome-based contracting due to its prioritization of results. Many contracts are input-based, meaning that you end up paying for aspects of the contract that you consume. Outcome-based contracting, on the other hand, focuses on the actual efficacy of the product or service and whether or not the results are successful. By prioritizing results, you can guarantee that you’re paying for success, thus encouraging better, more consistent results. The less- prescriptive nature of outcome-based contracts cultivates innovation and efficiency. Outcome-based contracts also offer substantial benefits to suppliers. Contracts structured on this kind of partnership model align customer requirements with supplier capabilities. Given the autonomy to decide how they deliver on contract requirements, vendors are empowered to deploy resources and manage budgets as they see fit. Anna added that adopting this kind of contract structure doesn’t mean all of your focus should go to the post-execution phase.

3. Outcome-based contracts still require end-to-end contract management. For example, you may have clauses you need to track very closely during the drafting phase. After all, as you turn your attention toward outcomes, there likely will be a new set of risks to consider and new stakeholders to engage. In order to ensure successful outcomes, you also have to make sure there’s alignment of strategies, objectives and ways of working between the buyer and the supplier during the early phases of the contract lifecycle. What industries are using these types of contracts? Essentially, the goal of outcome-based contracts is to incentivize results. You want to determine what success looks like upfront, critically decompose the success and come up with a definitive success criteria. This process strips out events that would happen regardless of input from the supplier, and guarantees that you only pay for things that happened because the supplier actually took action. Outcome-based contracting is useful in a number of different fields, such as the public sector, aviation, defense platforms and healthcare. Government agencies might utilize these contracts to achieve a social impact, such as moving unemployed people into the workforce. Defense platforms may be interested in paying for the availability of practical solutions. In healthcare, since treatments are becoming more expensive, there’s a larger push to focus on the efficacy of

4. treatments. This is accomplished via outcome-based contracts that determine what triggers a payment based on the success criteria that’s defined at a multiorganizational level and applied at an individual level. Phil cited one of the first usage-based contracts that occurred in aviation. The Rolls-Royce “Power by the Hour” business model utilized these types of contracts to increase product reliability. Airlines pay for the usage of engines. By building different ways of servicing and designing the engines into the contracts, the engine- maker was able to guarantee product reliability because they were being paid for success. How are enterprises tracking contract data without a CLM tool to help? Without a CLM tool, data collection, collation, scoring and performance assessment must all be done manually via tally sheets, spreadsheets, Microsoft Excel, etc. Now that more efficient and practical ways of managing this data have surfaced, there has been a resurgence in outcome-based contracting. Large companies may find that they’re limited in tracking obligations because it’s extremely labor intensive. A CLM solution revolutionizes tracking by offering a centralized area for data collection and pulling in data from the source rather than relying on manually made spreadsheets.

5. What are the first steps an organization can take to evaluate their contract processes and start setting up outcome-based agreements? Phil and Anna outlined some key steps for setting up outcome-based contracts: • Think about how you want to track your obligations. You need to be able to quickly pull up the obligations of any contract and keep track of the commitments that have been made. • Get your contracts into a centralized repository. From here, automation can help remind you what you need to be tracking. • Figure out which integrations are critical to success. Start by automating the high priority calculations (perhaps from invoice or billing management systems) you might need to make in order to determine whether or not performance has been achieved. •Ensure there’s a joint understanding between the two trading partners. Communicate to each other what success looks like, align interests and make it clear what it means to succeed or fail. Make sure the consequences of failure are greater than the cost of delivery.

6. How does CLM help companies automate and ensure that data tracking isn’t excessively difficult or expensive? Phil explained that it’s necessary for a company to do some pre-work prior to automation. This typically involves decomposing success into a tangible idea that can be measured with data. The data must then be available from a source that won’t be disputed by those outside the organization. As an example, Sirion built an outcome-based contracting platform for healthcare organizations that centers on the efficacy of treatments. There’s an inherent complexity in these contracts because the outcome (whether or not the treatment has worked) happens at an individual level while the contract itself is at a multi- organizational level. These outcomes can be very difficult to track unless they are automated. In situations such as this, you have to be able to break down and figure out the trigger point for a payment, then codify it. An AI-powered CLM platform can recognize similar types of obligations from contract to contract, making it easy to scale outward and bring in new clients.

7. How long to realize value? Anna estimated that Sirion customers can begin realizing value within three months depending on the complexity of the use case. However, there’s often a high degree of consistency in the data that companies want to track, which enables familiarity with the integrations that might be required and supports smooth implementations. According to McKinsey, poor contract performance by suppliers can result in higher total costs of 10-20 percent. Unlocking this kind of additional value from contracts triggers other benefits, such as greater control, transparency and consistency as well as generating higher operational performance and successful business outcomes. For companies that manage a massive number of contracts at once, solutions like Sirion CLM also provide a way of ensuring consistency of supplier performance across the entire contract portfolio. To learn more about powering your enterprise’s digital transformation on the Sirion CLM platform, click here. And to hear exclusive chats with expert guests offering valuable legal-tech advice, check out the Contract Heroes podcast. Source- https://www.sirionlabs.com/blog/incentivizing-positive- results-with-outcome-based-contracts/