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Five and Ten: Five Rules and Ten Steps for a Successful Supplier Contract
Kate Vitasek and Joe Tillman, Supply Chain Visions
Alignment, communication and collaboration are crucial for an effective buyer-supplier retail value chain. That's easy to say, not necessarily easy to accomplish.
But there is a better and proven way for companies to achieve long-term agreements with suppliers - by sharing and creating value based on aligning performance and goals through deep collaboration, trust and cooperative innovation. This is the Vested approach in a nutshell.
Some 45 years ago the legal scholar Ian R. Macneil observed that most contracts are not equipped to address the reality of business needs in his book, Contracts: Instruments for Social Cooperation1. He noted that contracts are rooted in the classical approach to contract law and thus focus mainly on transactions and strictly defined legal protections such as pricing and price changes, service levels, limitation of liability, indemnification and liquidated damages.
Sound familiar and constrictive? There is a better way: Vested. University of Tennessee researchers teamed with the International Association for Contract and Commercial Management to write The Vested Outsourcing Manual: A Guide for Creating Successful Business and Outsourcing Agreements. It provides a step-by-step pathway to implement the changes that are needed to take modern business relationships to the next level.
Vested is based on Five Rules that combine with 10 Elements as shown in the following chart:
The elements and their interaction with the rules are briefly described below.
Rule #1: Focus on Outcomes, Not Transactions
Element 1: Business Model Map
This first step is to understand and document an outsourcing business model. It is essential to document how well the parties are aligned to each other's goals.
Element 2: Shared Vision and Statement of Intent
With the business model understood and mapped, the parties then work together on a joint vision that will guide them for the duration of their relationship. The joint vision will form the basis of a Statement of Intent drafted by the outsourcing teams.
Rule #2: Focus on the What, Not the How
Element 3: Statement of Objectives/Workload Allocation
This element lays the foundation for the parties in a Vested partnership to do what they do best. Together the parties develop a Statement of Objectives (SOO), which is very different from the standard SOW. The SOO describes intended results, not tasks. Based on the SOO, a service provider will draft a performance work statement that defines in more detail the workscope and the expected results.
Rule #3: Clearly Defined and Measurable Outcomes
Element 4: Top-Level Desired Outcomes
Desired Outcomes are the centerpiece of the agreement because without mutually defining their outcomes alignment between the parties cannot occur. Outcomes are expressed in terms of a limited set of high-level metrics.
Element 5: Performance Management
A sound agreement defines how the Vested parties will manage overall performance. The metrics and the associated process for managing performance will help align performance and strategy.
Rule #4: Optimize Pricing Model Incentives
Element 6: Pricing Model and Incentives
The approach of many procurement professionals to outsourcing is stuck on one thing - getting the lowest possible service and labor pricing. The strategic paradigm shift of Vested is that the service provider's profitably is directly tied to meeting the mutually agreed Desired Outcomes. The more successful the service provider, the more money it makes. Inherent in this model is a reward for service providers to invest in process, service or associated product that will generate returns in excess of agreement requirements. Incentives are a key component because service providers/suppliers are taking on risk to generate larger returns on investment. An incentives package delivers the most commercially efficient method of maintaining equitable margins for all parties for the agreement's duration.
Rule #5: Insight versus Oversight Governance Structure
Element 7: Relationship Management
A relationship management structure creates joint policies that emphasize the importance of building collaborative working relationships, attitudes and behaviors. The overriding principle is for the parties to manage the business - rather than the buyer managing the service provider.
Element 8: Transformation Management
This is a new relationship model - personnel and company ecosystems are changing. The parties are doing things differently and probably not operating in familiar comfort zones. Managing this transformation, including transitioning from old to new, along with change management once the new agreement is up and running, is often difficult and complex to implement. Preserve as much continuity as possible among personnel and teams as the transition progresses into day-to-day implementation and operation. The focus here is on end to end business metrics, mutual accountability and the creation of a culture that rewards innovation, agility and continuous improvement.
Element 9: Exit Management
Sometimes the best plan simply does not work out or is trumped by unexpected events. Business happens and companies should have a plan when assumptions change. An exit management strategy provides a template to handle future unknowns.
Element 10: Special Concerns and External Requirements
The final element recognizes there are often special requirements and regulatory protocols. For instance, in supplier and supply chain relationships involving information technology and intellectual property, security concerns may necessitate special governance provisions outside the normal manufacturer-supplier relationship.
Implementing the Ten Elements enables progressive companies to alter their mindsets and challenge old-school approaches by establishing dynamic, modern business-to-business agreements. They transition their thinking from the adversarial to the truly collaborative.
In sum, Vested's Five Rules and 10 Elements guide companies and their suppliers to a collaborative, long-term win-win partnership.
 Ian R Macneil, Contracts: Instruments for Social Cooperation (Hackensack, NJ: F. B. Rothman, 1968)
Kate Vitasek is a faculty member at the University of Tennessee's Center for Executive Education and is author of the popular books Vested Outsourcing: Five Rules That Will Transform Outsourcing; The Vested Outsourcing Manual; Vested: How P&G, McDonald's and Microsoft are Redefining Winning in Business Relationships; and Getting to We: Negotiating Agreements for Highly Collaborative Relationships.
As an enthusiastic and dedicated young professional, Joe Tillman is a senior researcher with Supply Chain Visions. His keen interest in all things supply chain and his high-energy approach to life find him authoring articles, a blog for DC Velocity magazine, a subject matter expert for APQC, and speaking at numerous industry event.