Risk Identification

There are many potential risks confronting outsourcing agreements. These risks can fall into one of three categories: legal, operational, and financial.

Legal risks involve litigious issues, prior to, and after negotiating an agreement, such as:

■ Including unclear clauses in the agreement

■ Locking into an unrealistic long-term contract

■ Not having the right to renegotiate contract

■ Omitting the issue of subcontractor management

Operational risks involve ongoing management of an agreement, such as:

■ Becoming too dependent on a vendor for mission-critical services

■ Inability to determine the quality of the services being delivered

■ Not having accurate or meaningful reporting requirements

■ Select a vendor having a short life expectancy

■ Unable to assess the level of services provided by a vendor

■ Vendor failure to provide an adequate level of services

Financial risks involve the costs of negotiating, maintaining, and concluding agreements, such as:

■ Not receiving sufficient sums for penalties and damages

■ Paying large sums to terminate agreements

■ Paying noncompetitive fees for services

These categories of risks are not mutually exclusive; they overlap. However, the categories help to identify the risks, determine their relative importance to one another, and recognize the adequacy of any controls that do exist.

The risks also vary, depending on the phase in the life cycle of an outsourcing agreement. There are essentially seven phases to an outsourcing agreement: (1) determine the business case for or against outsourcing; (2) search for vendors; (3) select a vendor; (4) conduct negotiations; (5) consummate an agreement; (6) manage the agreement; and (7) determine the business case to decide whether to renew, renegotiate, or terminate a contract. Exhibit 1 lists some of the risks that could exist for each phase.

Exhibit 1. A Sample of the Risks in Each Phase

Phase

Risk

Determine the business case for or against outsourcing

Using incorrect data

Search for vendors

Using a limited selection list

Select a vendor

Entering biases into the selection

Conduct negotiations

Not having the right people participate in the negotiations

Consummate an agreement

"Caving in" to an unfair agreement

Manage the agreement

Providing minimal expertise to oversee the agreement

Determine the business case to renew, renegotiate, or terminate the contract

Ceasing a relationship in a manner that could incur high legal costs

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