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| Outsourcing’s Legalities: Eight Pieces Of Advic |
September 11, 2005 |
By Jim Middlemiss
OUTSOURCING IS OFTEN SEEN AS A GREAT BUSINESS TACTIC, AND IT CAN BE—BUT IF YOU BOTCH THE LEGAL END IT ALL GOES TO HECK
Outsourcing is an effective solution for many companies: everything from information technology to human resources, finance and accounting, and customer care and support can be handed off to one of the growing number of outsource providers.
But from a legal standpoint outsourcing is also one of the riskiest and most sophisticated tasks a business can undertake.
And that is especially so if a company is transferring assets and employees to the outsource provider.
Get it right and the rewards can be plentiful; get it wrong and a business can be in peril.
Here are the eight legal basics you need to consider when embarking on an outsourcing arrangement.
1. NO ONE-SIZE SOLUTIONS
Each outsourcing situation is different and no single contract encompasses everything.
Rather, a typical outsourcing deal features a series of contracts, schedules and appendices that can easily run into hundreds if not thousands of pages. All must be painstakingly negotiated and drafted so they are customized to suit each case.
So budget your time wisely and don’t expect it to come together overnight. It takes anywhere from six to 12 months to negotiate a deal, said Richard Coleman, a lawyer in the technology business group at Osler, Hoskin & Harcourt LLP in Toronto. “These things are so complex.”
2. RFP CREATES OBLIGATIONS
The normal starting point in the outsourcing process is for a company to issue a request for information, said Richard Corley, a lawyer who co-heads the information technology practice at Blake, Cassels & Graydon LLP in Toronto. The request canvasses outsource providers about their skills and abilities and helps narrow the field of candidates.
That should be followed by a Request for Proposal (RFP) — the technical document that sets out what your company wants to outsource and what it is looking for from a provider.
The legal structure for good outsourcing starts with the RFP, because it sets the stage for the contractual negotiations that follow. “There’s a strong correlation between a successful outsourcing and a good RFP process,” Coleman said.
He said firms that skip the RFP process and simply sole-source a task to a provider they already know “run a great risk of not getting the best deal, because you lose the bargaining advantage of a competitive procurement.”
However, caution is required, because under Canadian common law the issuance of an RFP also creates certain legal obligations.
(This is not true in the U.S.) “You are entering into a contract, referred to as Contract A, between you and the companies that respond,” Corley said.
“It imposes a number of obligations on you to deal with [the outsource providers] fairly and assess the proposal in light of, and in accordance with, the RFP. It quite
substantially restricts your freedom.”
For example, the RFP cannot be substantially altered after responses come in. That means, for instance, a requirement specified as mandatory in the RFP cannot be changed after the fact to favour a specific provider.
Corley said if that happens, “a bidder may have grounds to bring a claim against you and could invalidate the procurement process, and effectively put you back to square one.”
To avoid making requirements mandatory, ask respondents to indicate whether they accept, reject or have their own modifications to proposals in the RFP. It’s a more flexible approach.
3. BEWARE NON-DISCLOSURE
A non-disclosure agreement is one of the first things parties must agree upon. It prevents either side from disseminating sensitive data.
Normally, these are fairly standard documents and there’s not a lot of dickering.
However, Coleman said outsource providers are increasingly trying to insert a “sunset clause,” which sets an end date for the protection of such information.
After that date, your secrets could become public knowledge.
“So you have to assess what the risk is,” Coleman said. “I tell clients all the time that the best way to protect information is not to disclose it.”
4. SET THE SERVICE BAR
Daniel Paul, a lawyer who heads up the information technology group at Ogilvy Renault in Montreal, said service level agreements (SLA) are critical. “They are definitely number one on the hit parade.”
An SLA describes what services are being provided and specifies levels of quality or reliability.
Paul said that to craft an SLA, a company must first understand how its business operates and what services it requires before it can seek to outsource, because while lawyers can draft pages of language it is up to the business lines to detail day-to-day requirements.
Service levels and descriptions need to be specified early in the negotiations.
Otherwise, Osler’s Coleman said, a disagreement arising before the deal is signed may leave the provider in the driver’s seat as the parties scramble to settle the details.
A key aspect of SLAs is benchmarking, a touchy subject according to a survey of the top outsourcing providers conducted by Osler Hoskin & Harcourt LLP.
Benchmarking is where a third-party measures the performance of the outsource provider in comparison to other deals in the market, and pricing is adjusted according to the findings. This usually results in a reduction of fees.
The Osler survey found 60 per cent of providers feel benchmarking is not a valid way to measure performance because businesses are too disparate and tough to compare accurately.
“But you should be seriously considering benchmarking,” Coleman said, acknowledging it can be unfair but can also reveal a “lack of competitiveness.”
5. SELLING ASSETS, PEOPLE
Transferring assets and people to the outsource provider adds a large layer of complexity, and lawyers point to a number of hurdles in this area.
When selling assets, companies need to ensure they obtain the proper third-party consents. For example, many hardware and software licenses prevent the transfer of technology to a third party.
“That can sometimes lead to significant discussions, especially if the other supplier is a competitor of the party to whom the work is being outsourced,” Corley said.
This means transfers typically require a payment to the third party to get their buy-in on the deal. Corley said smart companies will often insert a procurement clause when negotiating software or hardware licenses, to give them flexibility in future outsourcing deals.
In terms of transferring people, Coleman said the challenge is dealing with unionized workplaces, where there is concern about successor rights under collective bargaining agreements. Companies must also ensure former employees are given a comparable job or they could face wrongful dismissal suits.
Severance and pension issues could also arise when transferring a large group of employees, so it’s critical to ensure experts in employment and pension law review the deal.
6. CAPTURING AFFILIATES
Potential deals must be wide ranging and ensure all parties are captured, or it could trigger tax issues and contractual disputes, Coleman said. This is done through affiliate agreements, which ensures subsidiaries and related companies of each party are part of the final deal.
For example, the parties might agree to an outsourcing arrangement with the expectation that it will be global and work will be done by the outsource provider’s affiliate companies in different jurisdictions.
“If money or services and people are crossing the border to perform an outsourcing there is likely to be a tax effect you have to worry about,” he said.
As well, if affiliates are not part of the contract, then in law there is no “privity” and there is no way to force affiliates to live up to their end of the deal.
And then there is intellectual property and personal data. This is especially a concern when multiple geographies are involved. For example, Canadian law requires companies protect personal information.
If that data is being shipped offshore, then companies need to ensure the person receiving the data protects it in an equal fashion. The same goes for any subcontractors that the outsource provider uses.
7. TERMINATION AND REMEDIES
No contract is complete without provisions that impose sanctions for a breach. They are also cited in the Osler survey as one of the negotiating sticking points.
Adam Vereshack, a member of the technology law group at McCarthy Tétrault in Toronto, said in the extreme case, termination could be one remedy for a contract violation. The other option is damages and penalties for failing to live up to elements like pricing obligations and service commitments.
If the deal is with a foreign provider, contracts must also stipulate which country’s law applies and there should be arbitration or mediation clauses in place to allow the parties to settle disputes — short of a full-blown court process.
A section dealing with termination and transition should also be included, covering the expiration of the agreement or allowing the company to repatriate work earlier in the event it wants to bring it back in-house or move it to another provider.
8. GOOD GOVERNANCE
Corley said while contracts set out the rules of the game between the parties, it’s equally important the company looking to outsource has a governance framework in place internally, detailing how it will manage the contract. That means figuring out which executives are in charge and ensuring business lines are providing the proper information needed to manage the project from beginning to end.
Outsourcing contracts, he said, last for a long duration and the parties have to get along. “A good governance framework allows you to solve problems at a very, very early stage and in a collaborative and co-operative manner.”
After all, the last thing any business wants to do in an outsourcing deal is call in the litigators. There are already enough lawyers in the mix.
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