This is the first in a series of three articles examining how contract creation is evolving to meet the needs of modern business. This initial post examines the major drivers of change and predicts future states through the lens of a contract maturity model.
Rationale for Change
The driver of change is economics. Contracts are the language of business, and they document our business relationships. Contracts are financial instruments that control the exchange of trillions of dollars of assets, goods and services. But the process of drafting and managing legal agreements has changed little over the centuries. The scribes that first drafted precedents in 1392 at the Worshipful Society of Scriveners would recognize the contemporary practice of marking up the last, closest draft to the needs of the current transaction, albeit with a keyboard and not a quill.
The next 10 years will witness greater change than the last 700 years, and that change will be driven by competitive pressures. Contracts represent a significant opportunity to cut costs and maximize value. For example, Gartner finds “hard-dollar savings in 75% of the contracts [they] review and many reviews lead to multi-million-dollar savings.” Contemporary practice also misses an opportunity to increase the value of contract portfolios. IACCM leadership reports that “[r]esearch shows that good Contract Development and Management could improve profitability by the equivalent of massive 9% of annual revenue.”
Contract Maturity Model
How can an organization minimize contract leakage and maximize value? The short answer follows a now well-worn path described by Richard Susskind in the book, The End of Lawyers? In his seminal work, Susskind describes a continuum moving from one-off approaches to standardization, to systematization, to productization, and finally to commoditization. The trend-line proposed in these articles is generally the same — it starts with a precursor step of getting control of contracts through centralization, and ends with a fully optimized platform, as illustrated in the following diagram.
The strategy comprises four main elements (I will address the first two in this blog post):
- People (setting strategic approach and ensuring accountability);
- Process (workflows and tasks);
- Technology — creating an assembly line of automation and workflow tools (addressed in the second part of this series); and
- Content — reusable, interchangeable contract building blocks (addressed in the third part of this series).
People: Selecting the Approach
The first element is people and how best to use their services. The lessons of knowledge management show that there are two main approaches to knowledge systems. A tacit knowledge approach relies on experts to handle all matters. Indeed, this is the historical approach. Experts are highly adaptable, and usually capable of performing any task. But their know-how leaves with them when they leave the organization.
An emerging approach — sometimes called tacit knowledge management — seeks to capture the expert’s explicit knowledge into a system. By contrast, the systematic approach is more rigid but capable of producing consistent results at lower cost. The preferred approach is to blend the best of both: create standardized systems for an increasing volume of predictable matters and use human experts for a decreasing volume of non-standard matters.
The overall process moves from one-off (or ad hoc) techniques to a fully optimized, self-monitoring contracting system with limited exception handling for non-standard situations. For many, the vision of a self-organizing, self-reporting contracting platform will appear too futuristic. But even if the end game seems many years in the future, knowing the goal and taking small steps in the correct direction will yield significant benefits in the short-term.
The process starts with an assessment of current systems. The matrix can be used to benchmark existing systems and plot a path forward. While many organizations have made significant progress, the majority of agreements today are still drafted by marking up the most recent, closest draft rather than starting from a standard template. Lawyers and contract managers find existing agreements using simple search tools, if available. Workflow procedures are typically informal and not consistently applied.
The first step is to get control. Gather all contracts in a single, centralized repository and start to organize the collection with basic contract profiles. Many organizations have already done so by deploying contract or document management systems. However, as a recent survey noted “21% of legal professionals do not know where their contracts are stored, with another 28% vaguely knowing but admitting that they are scattered across decentralized repositories, networks, hard drives, inboxes and even hard copies stuffed in filing cabinets and desk drawers throughout the business.”
Standardization ensures consistency by creating contract templates or model forms to be used as a starting point for new agreements. Templates can be automated with the use of document assembly, workflow and approval tools. Often the standardization process involves reviewing a large set of exemplars and executed agreements and, from this set, identifying a smaller number of common standards. This template harmonization process can be undertaken by manual review or with the aid of contract analytics. Standards can be established by dictatorial fiat, committee, or by applying data mining tools to identify existing consensus. In practice, the approach will likely involve some element of each approach. In an earlier post, I have described the fastest way to create standard forms.
The next step, likely to yield the greatest efficiency gains, is to ensure consistency of terms across all agreements. One approach is to create a single framework organizing all agreements, such as the Unified Contract Standards Framework. The framework is created by pivoting a contract type taxonomy (a listing of every type of agreement) with the clause taxonomy to identify which clauses (and variations) appear in each agreement type. The resulting matrix yields a manageable clause library of reusable, interchangeable building blocks that can generate any agreement type, but which can be maintained by a small number of experts.
With workflow and contract building blocks in place, the system can measure and monitor key contract performance values. These metrics can be delivered through a dashboard tracking time, cost and quality. One key goal is to find friction points, namely activities that add unnecessary costs, such as clause terms that add significant delays to contract negotiation or activities that increase risk, such as the removal of terms designed to protect the company’s interests. The metrics will then guide system managers to make appropriate adjustments to workflows and templates to continuously refine contract procedures and maximize portfolio value. Finally, monitoring systems can be embedded into smart contracts to self-report and automatically inform managers of key events, such as notification obligations.
Standardization and systematization are the key steps to establishing a contract portfolio that can be quantified and monitored. Without such processes, all strategies can be tested only anecdotally. The next step is to convert the contract portfolio into a corporate asset by creating a workflow process (an assembly line) upon which contract components are efficiently assembled into consistently high-quality financial instruments serving the interests of businesses.
(In the next part of this series, I’ll look more deeply into the technologies that are delivering new capabilities.)