When Should Manufacturers Begin Vendor Contract Negotiations?

Posted by Jim Kurtz on May 2, 2017 7:19:53 AM

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The typical manufacturer has dozens, if not hundreds, of contracts in place with numerous suppliers that support its operations (both direct and in-direct spend categories). As a result, staying on top of the expiration dates for all of those agreements to maintain an effective renewal process can present a significant challenge. At a minimum, doing so is simply best practice, but in other cases, such due diligence may also be a regulatory requirement or a board mandate.

So how long before a contract’s expiration should the negotiation process begin? The answer depends on many factors, including the service in question and the length of time moving to a different (new) vendor would require. One factor that should not come into play, however, is the level of satisfaction with your incumbent. The deck is stacked in favor of the vendor in many ways, so manufacturers must seek out leverage points whenever possible. 

In many cases, considering a replacement of an incumbent vendor is a non-starter as it would require a protracted process encompassing internal disruption as well as detailed testing and qualification. Replacing a key supplier can require a full year, not including the additional time that’s typically necessary to carry out an effective Request for Proposal (RFP) process. Any supplier worth their salt is going to have its own tickler list, and a manufacturer should expect to hear from them (on average) roughly 12-18 months prior to a contract expiration date, if the manufacturer hasn’t already initiated conversations. This timing is by design – if negotiations haven’t begun at least 18 months before the contract expires, a manufacturer’s leverage is limited as the incumbent vendor is quite aware of what an alternative will require.

 Where to Begin the Negotiations

This isn’t to say that buyers should always orchestrate an RFP, spending everyone’s time in the process, if they are satisfied with their current supplier.  If you are pleased with the existing relationship, it’s always a good idea to begin with the incumbent. . Merely doing the necessary cost modeling often offers an ideal opportunity for a frank, constructive exchange regarding the relationship and pricing.

With so many contracts in play, it’s also advantageous to take a more holistic approach to a contract renewal strategy. Given the ongoing trend of industry consolidation, it’s quite possible that a manufacturer has multiple contracts with a single supplier – all with various expiration dates. Moving these deals to a coterminous state both helps to clarify the relationship and improve the manufacturer’s leverage to obtain the best possible deal.

 Understanding the Market

While it can be time-consuming, vendor evaluation can also serve as a valuable education process as an opportunity to better understand a rapidly evolving market. This is where a contract management partner can be of great value in facilitating the process – whether it’s for a full RFP or a more tactical due diligence. A subject matter expert negotiating numerous contracts in a year will certainly know more about industry nuances than an in-house resource diving into the topic once every 3-5 years. With the connections in place to arrange meaningful conversations with properly positioned contacts, such partners can also save time compared to an internal project manager who has a full-time job focused on operational support most of the time.

Because transition costs for key components are typically very high, this creates a significant barrier that favors the incumbent. This underscores the importance for manufacturers to make the best decision – and strike the best possible deal – when vendor relationships are first initiated. Incumbents have various strategies to deter their customers from starting early and doing a comparative review of their position.  Although such proposals are not inherently bad, they’re an implicit acknowledgement that a vendor values your relationship at a rate higher than its stated terms. Armed with that data point, it’s only logical for a manufacturer to research the true value of its business.

Topics: Vendors & Contracts