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07 Feb 2018

Why government IT contract terms need to open up to smaller companies

Michael Mudd

First, some general points on government contracts: Government and industry should aim for “win/win” contracts: a major problem at present is the addition of unreasonable terms that bear no relation to the substance of the contract, often by external advisors seeking to “add value” to a particular deal. This means that;

  • Both government and contractor should make common cause to stop unreasonable terms being set out in tender documents. Unreasonable terms create risk and undermine trust: leading to badly implemented deals and unsuccessful programmes.
  • Contractors are looking at short-term solutions. The contractor is looking for achievable changes to ask for at government level or at ministerial level.
  • The ‘devil in the detail’ and understanding the detail is important. For example, a financial distress clause is often written into government’s standard T&Cs. From a policy point of view this contradicts and is contrary to the more general current government policy of supporting companies in a period of “credit crunch” and not penalizing them for financial, as opposed to operational, matters. There is a clear conflict of priorities here and this is something government should reconsider given the credit crisis.
  • A governance and control issue is that ‘Buying Solutions’ and the different government departments all have a tendency to ignore government guidance with the insertion of more onerous terms; again a matter on which contractor and government should make common cause. (In the UK the Conservatives have indicated that they will look at governance on public contracts from an examination of the Read report for HM Treasury from April 2009, which proposed changes to governance and in life monitoring of public contracts).
  • Framework agreements should not place onerous terms on suppliers: unforeseeable risk creates unquantifiable liability and frameworks need to be sensitive to this.
  • When government acts as a commercial buyer it has a position of substantial market power in many markets. Given the recession and credit tightening government contracts may be strategically more important for many suppliers and the credit status and cash-flow benefits of government by comparison with other customer contracts place the government in a privileged position.
  • As the most important customer sector government contracting underpins the UK technology industry, and the impact of the recession on banking and finance, where high ICT spending on mission-critical systems has been reduced, may have increased the relative importance, (and market power) of government. The government should be sensitive and ensure that contracts are not abusive given this increase in the level of government market power and impact on the economy.
  • The Office of Fair Trading has issued basic guidance recently (government in markets) and contractor is interested in how government will take this forward with government departments. (E.g. how do government departments assess their level of buyer power? How often does this exercise take place? What is done to avoid imposing abusive terms on suppliers?).
What are the top five interests?
  • Financial distress (credit status reduction)
  • This provides government with termination rights in circumstances where there has been no change in performance, or where the supplier may be facing administration or bankruptcy. The clause appears contrary to overriding government policy of supporting industry where there is no issue of contractual or failure of performance. It may also be questionable as an attempt to defeat creditors generally and an abuse of process. (See above).
  • “Time of the essence” clause
  • This should only be imposed when speed of delivery or hitting a deadline is really an issue and it is agreed with the supplier. Where time is not critical to customer requirements it should not be defined as being ‘of the essence’ and any blanket definition is inevitably disproportionate.
  • Due diligence
  • ‘Deemed” due diligence will inevitably mean that suppliers have not been able to identify and manage risk. Failure of government as the client to provide detailed information in the first place and then to stand behind the information provided prevents recovery of genuine additional costs.
  • Time should be spent on full due diligence and government should gain the benefit from risks being known and managed on an agreed basis: some may need to be managed by government departments as key dependencies to supplier performance. Lack of information requires more careful thought; many risks come back to haunt government even though the issue is not the “fault” of government. The attitude should be more about operational performance and making the service or supply work, rather than identifying who is to blame.
  • In an environment where suppliers have very little cash they may agree to almost anything, but this does not necessarily result in a successful project. Big projects can and do fail, most recently the Australian Census of August 2016.
  • Technology neutrality
  • With the shift to software as a service and cloud computing there is an increasing issue of technology lock-in to legacy systems and interoperability with existing platforms.
  • Customers want choice at all levels of the technology stack: where there is no choice the lack of competitive constraint may lead to higher prices and lower quality (I understand the US Department of Justice is looking into this issue).
  • Companies need to protect their intellectual property. This has in some cases led to the perception that “Free” software is the best available. Governments have found it attractive to use Open Source software; and have ignored the technology lock-in issue: layers of software patches and lack of any asset registers add to the levels of complexity and mean that government does not update to newer, cheaper and better alternatives. The hidden costs of open source may be substantial. What a technology department may decide to do in the short term, by tailoring open source software may lead to longer term difficulty in identifying the intellectual property rights, and reduce flexibility. Government is a long-term business and should think over the longer term.
  • We want the government to consider this issue: when it comes to specification the tender documents should be technologically neutral and avoid specifying the technology in terms of today’s products. Output specifications should be preferred.
  • Limitation of liability
  • There is still a tendency to use indemnities inappropriately in place of normal contractual commitments.
  • Unlimited liability has also increasingly crept into contracts, again introduced by government lawyers.
  • Perhaps what is needed is educating the lawyers to realize that what they are doing is unreasonably increasing the supplier’s contract, harming the ability for a supplier to deliver to contract and harming the wider economy rather than improving things. Smaller companies have no chance here.
  • Counter argument is often raised “if you do not like it you do not have to sign the contract”. In the current climate people will sign the contracts with their eyes only on the next quarter; government should care about deliverability over the contract life and the effects on the wider economy.
  • Given the huge market the government has it is unlikely that suppliers will step away from signing contracts; this is evidence of market power (see above: what is being done to address this issue?)
  • It is also impossible to get insurance without a significant increase in your premiums: so increasing the level of liability is abusive and unrelated to performance: incentives to increased performance are such things as gain sharing, not liability: English contract law is defined in terms of avoiding windfall gains and losses and the duties to mitigate, and avoidance of penalty provisions are there to help secure the performance of a bargain.
  • Unlimited liability increases the cost and risk to new entrants because existing suppliers know what the risk is and are in a better position to assess the risk (RAND Report).

Benchmarking may be a more principled basis for identifying reasonable terms and conditions when a department has a strong buying position/market power: this however needs to be done on a systematic open and transparent basis looking at competitive markets. Contractor/IACCM may be able to help in this regard.

In conclusion, government departments need to assume more responsibility for ensuring that contracts are more open and less onerous for smaller companies to be able to compete if they want innovation to flourish.

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