Both customers and suppliers can learn lessons on outsourcing from a recent dispute ruled on by the High Court in London.
The judgment issued by Mr Justice Knowles specifically referred to deficiencies in the drafting and governance of an outsourcing deal between Cornwall Council and BT Cornwall.
The ruling highlights some of the dangers inherent in drafting imprecise termination provisions and how to approach the challenge of terminating all or parts of a long term and high value sourcing contract.
In March 2013 BT Cornwall and a consortium led by Cornwall Council agreed a reported 10 year £160m outsourcing contract which provided for a strategic partnership between the parties covering health, transport, communications and public safety services.
However last month the High Court gave the go-ahead to Cornwall Council to terminate that contract after finding that BT Cornwall was in material breach of the agreement. The court ruled that BT Cornwall had failed to deliver services to service levels set out in the outsourcing agreement.
According to the judgment the outsourcing arrangements got off to a bad start with BT Cornwall breaching a service level agreement due to a “backlog of work”. Cornwall Council and BT Cornwall worked to re-baseline the agreement and sought to agree some revised key performance indicators (KPIs).
However in June last year Cornwall Council wrote to BT Cornwall claiming that it had a right to terminate the outsourcing contract after taking issue with BT Cornwall’s performance of its contractual obligations. This prompted BT Cornwall to take the brave step of issuing legal proceedings in an effort to win an injunction preventing Cornwall Council from serving a termination notice.
It is understandable from BT Cornwall’s perspective why it would not want a threat of termination hanging over the agreement given the early investment it was making during a long term service contract. Suppliers often have to invest heavily in long term contracts in order to transition and transform services, thus making a loss in the early stages of the contract, in order to profit during the mid to later stages of the term. Suppliers also wish to recognise revenue under accounting standards and need to consider their insurance arrangements when threats of termination are made.
In considering the injunction application Mr Justice Knowles criticised the arrangements put in place to underpin the outsourcing. He stated that the outsourcing contract itself was “very hard to work with, including by reason of its impractical length, and the imprecision in some of its drafting.” He said that “its oversight and governance arrangements proved inadequate for all parties when things started to go wrong.”
The judge was also critical of the fact that BT Cornwall and Cornwall Council chose “not to call as witnesses senior people who had obviously material evidence to give”, and viewed dimly an email from a BT employee who had, in an email, encouraged one of his operations team to reduce the impact of KPI breaches through the “manipulation” of certain data. Mr Justice Knowles rejected claims that the message had been “a joke” and said instead that “it reflected both a recognition that things were serious and a preparedness to take inappropriate steps to avoid that”.
Lessons to take from the ruling
It is not easy to interpret from the judgment why the judge was so disturbed by the drafting of the agreement. Long term sourcing contracts of the value of this deal between Cornwall Council and BT Cornwall and involving a wide range of services are by their nature complex and long. Government standard form ICT contracts are good examples.
However, it is clear that neither Cornwall Council nor BT Cornwall was particularly well served by the service levels and KPIs which were set out in the agreement.
The service levels did not seem to have incentivised BT Cornwall to improve its performance and quickly led to the company concentrating its attempts on renegotiating the KPIs which it regarded as not “fit for purpose”. In addition, the judge found that one of the KPIs which Cornwall Council had claimed BT Cornwall had breached was in fact not agreed between the two parties.
Suppliers will be particularly concerned to avoid KPIs and service level breaches giving rise to express customer termination rights, without those termination rights being qualified by a contractually agreed remedy period in which those breaches can be corrected.
In this case BT Cornwall found itself in a completely unsatisfactory commercial and financial position as a result of the breach notice served by Cornwall Council at a relatively early stage of the agreement. Suppliers will wish to ensure that service level breaches provide a service credit remedy rather than an express termination right.
In the event that an express termination right is agreed, suppliers will want to give themselves a remedy period or at least some prescribed period during which the customer has the right to serve a termination notice following service of a material breach notice.
In a long term contract a termination right exercisable immediately is justified in circumstances such as a change of control and insolvency events. It is more questionable that a termination right should be exercisable immediately in the case of service level breach even when the breach is serious and repetitive, as was the case in the Cornwall Council/BT Cornwall contract.
Standard provisions requiring a party to serve a termination notice in a period, usually 30 days, from service of the material breach notice were not used in this agreement. It is usually in both parties’ interests to have a period of time to reach agreement following service of a material breach notice, rather than having to gamble on winning a trial before a judge.
In his judgment Mr Justice Knowles was critical of the governance of the Cornwall Council/BT Cornwall outsourcing arrangement. It is clear from the judgment that the provisions used in the agreement did not appear to put enough pressure on both Cornwall Council and BT Cornwall to reach agreement on their disputed issues. One would expect to see quite prescriptive, mandatory problem management and dispute resolution provisions, although this would perhaps not have helped with the concerns the judge raised about the length and complexity of the agreement in this case.
In outsourcing contracts there needs to be clear linkage between governance, service level breach, problem management, dispute resolution and termination provisions; they need to work in harmony and be clear. Customers and suppliers should ask: will the provisions help them reach agreement on issues which are bound to arise in a contract of this nature, or will they simply help one or other party position itself? There is a balance of risk in major outsourcing contracts and the provisions needs to reflect where the real risk in terms of service delivery lies.
Mr Justice Knowles’ comments about the ‘joke’ email should also serve as a reminder to organisations about the potential impact of communications where disputes have arisen.
In difficult situations where parties face issues which are difficult to resolve, email is often used to vent frustration and make inappropriate comments. Judges used to regard email as chatter and not attach the same evidential weight to email as say, an open letter between the parties sent at senior level. This is not the case any more and employees need to use email with considerable care when issues or disputes arise.