Anyone who has negotiated an outsourcing contract knows that one of the most contentious issues tends to be the benchmarking clause. How often should the price and service be benchmarked? By whom should it be done? Against what data should performance be compared? Who will pay for the market comparison? And what should be the result if the supplier’s price is found to be too high or the service level too low – automatic adjustment to the target level (as clients and their advisors might argue)? or just an obligation for the supplier to discuss the results with the client (as suppliers would wish)?

While getting answers to these questions is important, even more fundamental questions exist and should be addressed as a company develops its’ sourcing strategy including:

• Can benchmarking ever work?
• Can complex, client specific or unique services ever be accurately compared against the market?
• Indeed, why bother at all with benchmarking?

The arguments in favour of contractual benchmarking provisions run something like this. Outsourcing arrangements are typically long-term service agreements based on an exclusive or semi-exclusive service relationship. The market capability and the market price may change significantly during the term, yet the usual competitive market pressures don’t apply due to the exclusivity, so benchmarking is often the only lever which clients can pull to ensure they are not trapped in an out of date arrangement which costs too much and delivers too little.

A good benchmark often identifies specific ‘pain points’ in a client supplier relationship and/or uncovers the ‘root cause’ of known problems while providing detailed information on which to base solutions. Solutions might be as simple as lowering price or adjusting service level metrics if they are found to be inadequate or out of alignment with the market. In other situations, benchmarking might lead to the renegotiation of some or all of the agreement causing pain between the supplier and client. In either event the objective is clear, to drive beneficial change into the relationship and make the deal and contract stronger as a result.

Arguments against the use of contractual benchmarks typically run as follows. Benchmarking clauses are toothless in most cases because properly comparable data is not available with which to make definitive financial or service level assessments – outsourcing service and price is too dependent on the unique characteristics of the client environment, including legacy environments, company-specific processes and policies, and indeed specific contract terms. The proof of this, the sceptics would argue, is that benchmarking provisions have hardly ever been successfully invoked. Indeed, seldom does a commercially competent supplier agree for the findings of benchmarking to trigger any more than a review in any event. If you want to make sure your deal stays up-to-date, say the sceptics, do it by keeping the contract term relatively short and give yourself the opportunity to re-tender the services - competition is the only benchmark that counts.

Which view is right? My view is that, on balance, having benchmarking provisions in the contract is better than not having them. Firstly, despite historic shortcomings when used properly they can result in a stronger relationship and contractual agreement between the parties.

Secondly, even if they are seldomly used, benchmark clauses act as contractual leverage should the client ever need it. And clients in long-term outsourcing relationships should have all the levers they can available to them to ensure that expected value is in fact delivered over time.

Finally, and perhaps more importantly, the capability of benchmarking companies has improved in the last few years. Benchmarking is not the purely financial numbers game that it once was. Traditional cost benchmarking tended to be not very useful in the context of outsourcing deals, where market pricing was the most important measure, because this information could only be obtained through data gathering relating to actual deals, was problematic for traditional benchmarking organisations. But a small new group of specialist outsourcing consultants and benchmarking firms has now emerged with applicable deal-based data which can be applied effectively to outsourcing deals under consideration.

This has made the biggest difference – comparable data on outsourcing deals is now available, and clients should make use of it. If benchmarking can be made to work, then it can deliver real value during the buying and the contract renewal process.

In summary, benchmarking makes more sense today than it has in past years. When used properly, benchmarking clauses do more than provide contractual leverage for clients. Good benchmarks can drive beneficial change into a client’s supplier relationships and contractual agreements.

Rick Simmonds is a Partner with Alsbridge plc, the award winning advisors on outsourcing, shared services and offshoring. Rick can be contacted at rick.simmonds@alsbridge.eu or on +44 (0)20 7242 0666.