This is a warning, but not about health. This is about business.
While corporate general counsel and chief financial officers are rightly focused on the safety and sanity of their employees, a long-standing weakness in their businesses threatens to reveal itself in a destructive way in the coming weeks.
The problem: Most companies have no idea what they’ve contractually agreed across tens, if not hundreds, of thousands of commercial arrangements. As millions of business relationships are turned upside down, that collective blind spot could cripple our economic response to the pandemic.
Large enterprises exist in a massively complex web of relationships, codified in contract clauses that are coming under stress in one direction or another. From minimum purchase requirements, force majeure provisions and data security requirements to supplier exclusivity, and scores of others.
There is an absolute tsunami of contracts questions forming somewhere out there behind the storm at hand. It’s going to make landfall in months, maybe weeks.
For those responsible for company contracts, it is time for a group confession. Most of us don’t know how many contracts our companies have entered into or what portion of those comply with our policies. At best, we have a vague feeling for what might be in them. At worst, we have no idea where many of them are. According to International Association for Contract and Commercial Management, 80% of companies struggle even to find their contracts.
This Doesn’t Feel Like Risk Management
Not being able to access the obligations, entitlements and risks sitting in contracts is about to become a massive, possibly career-defining problem for the general counsel. Worse, the grinding of gears, threat of litigation and paralysis that results from not knowing what is permissible or what is perilous is exactly the kind of uncertainty that sends the business world into seizure.
We have seen this before. During the financial crisis, economic disruption applied similar stress to the contract system. Banks will recall an emergency of epic proportion as they tried to assess their exposure; in particular, the complex interdependencies they’d created contractually with other institutions whose capacity, wherewithal, and obligations were to all as good as invisible.
Under relentless pressure from regulators, the banks—during and after that crisis—invested substantial effort in mining and structuring contract data, embedding it in systems that, lo and behold, generate enormous value for them to this day, from both a risk management and profit perspective. Just as SARS prepared much of Asia for the coronavirus, the mortgage crisis readied the banks.
Other industries are not so lucky. The challenge with corporate contracts in most companies is that they tend to be dispersed across an archipelago of disconnected systems, if not filing cabinets, and are written in dense legalese resistant to automation. Master agreements are not co-located with their amendments. Version control problems abound.
While frustrating, the contracts mess has been tolerated historically, because the need to retrieve critical information from contracts or else presents itself only sporadically in a business as usual environment.
In spite of the undeniable business value hidden within them, almost no one reads their contracts until a supplier misses a delivery, or a customer fails to pay, or a regulator asks a question, or some other urgent discontinuity. Companies and law departments muscle through, dealing with the pain and exasperation in the moment, all the while promising one another to fix the underlying problems in due time.
The time to make good on those promises is now. That might not have been the plan, but neither was hiding at home in our pajamas from an invisible virus.
In just this past month, 99 of the AmLaw 100 (the country’s largest 100 law firms) have published Covid-19 resource centers. Nearly all (89 of the 99) include response requirement memos that agree on step one: “find your contracts.” A seemingly incidental instruction turns out to be profound advice and, unfortunately, a challenge of existential consequence.
As discontinuity becomes the norm, the hair-on-fire questions—from salespeople, business-unit leaders, chief executives, counterparties, and regulators—are piling up. A business unit that used to generate one contract question every week may soon generate 100. Much will depend on the answers. Not being able to respond with timeliness or confidence will destroy business value, which will eventually recover, and law department credibility, which may not.
To their credit, many general counsels and chief financial officers have begun multi-year journeys to achieve what most businesspeople would consider basic contract hygiene, including the ability to find one’s agreements and read them in the context of their families. Unfortunately, the pandemic has shortened the runway needed to land those efforts.
But There Is Cause for Optimism
First, technology is beginning to make the job of structuring contract data more feasible. Whereas software and analytics have been eating the world of numbers for some time, the same underlying technology can now ingest sentences and sometimes even clauses too. Progress can be made on contract data, faster and cheaper than during the last crisis.
The second piece of good news is that addressing the problem of contract chaos, even from a defensive panic, promises rewards that will far outlast the pandemic. The legal industry’s dirty secret–that we don’t know what’s in our contracts - will be disinfected along with everything else.
Practical Next Steps
At a minimum, every large enterprise needs a pristinely accurate and digitized system of record where agreements can be found, grouped in families and are fully searchable. Keep in mind:
- Agreements often enter the system as a scanned PDF post-signature. To ensure searchability, some significant portion of the contracts population must be digitized (OCR’d).
- A user-friendly process for herding your agreements into a central location is critical, so that the collection effort can be crowdsourced. Contracts are hiding throughout the company forest like little woodland creatures. The more “hunters,” the better.
- Agreements must be linked to their related parts so that you can see the current state of the “contract” with a counterparty, often expressed across subsequent statements of work, amendments, side letters and the like.
The above represents a meaningful undertaking for most and will be immensely useful but may not go far enough. While the economic crisis will spawn hundreds of questions, we estimate that—for most companies—there will be 30-40 frequently-asked questions across thousands of customer, supplier, and partner agreements. Anticipating that subset of recurring, relevant questions for your business will enable reporting that not only reduces pain and frustration but becomes a source of competitive advantage.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Mark Harris is the CEO of Knowable, a contracts data management company. Harris is one of the co-founders of Axiom. He served as Axiom’s executive chairman from 2017-2019 and was the company’s CEO from 2000-2016. Prior to founding Axiom, he practiced law at Davis Polk & Wardwell.