3PLs need thorough contract management

With customers increasingly seeking to drive down prices, while at the same time ensuring the supplier is contractually committed to performance service levels, it is essential for third party logistics suppliers to consider the ‘key issues’, from both a commercial and legal perspective, that should be addressed in pre-contract negotiations.

The ‘key issues’ in a contract for handling and storage services from a supplier’s perspective include:

Scope of the services – is this properly defined?
It is essential to have a sufficiently detailed and robust list of the services/products being supplied to detail what is in ‘scope’ and to prevent “service creep,” which may not be linked to price variation. Suppliers should consider including in the document a RACI (a matrix detailing the four key responsibilities most typically used: responsible, accountable, consulted and informed) so that each party is clear as to its area of responsibility.  

Pricing and Variation
Consider when and how often pricing should be reviewed/varied and the basis and triggers for variation.  

In addition, consider linking reviews to certain indices (e.g. RPI) but also whether this should be sector specific. Consideration should also be given to whether a change in volume or raw material prices should trigger variation. In particular for handling and storage services, consider what is happening with energy costs, particularly in terms of oil and transportation costs where the long term trend is emphatically upwards.

Ideally a formal change control process should be set out in the contract: however, suppliers should resist any unilateral right of the customer to force through a change without consent. In the event of any change, request suppliers should ensure they have the opportunity to revisit the prices.

Risk transfer
When handling and storing a customer’s goods consider when ‘risk’ in such goods is transferred to suppliers and at which point in the delivery process will risk transfer to Customers. The transfer of risk should be clearly set out in the contract and the requirement and the costs of insurance for when the risk is with the suppliers should be taken into account.  

Exclusivity
If customers are seeking a long term provision of services, consider seeking ‘exclusivity’. Unless exclusivity is expressly specified in the contract, customers will be entitled to source the provision of the services from other third parties throughout the life of the contract. Note however, that while ‘exclusivity’ provides the certainty of not facing a competitive position for the term of the contract it may have a negative impact on pricing. 

Benchmarking
Increasingly customers are seeking provisions dealing with price reduction. In short term agreements, at fixed prices, the reductions may be dealt with simply by reducing the prices over the period of the agreement. Longer term agreements often refer to a process of external benchmarking for all or part of the services and may look at suppliers’ internal costs of service provision as well as the external cost. Certain contracts also allow customers to seek third party quotations for certain element of the services, with suppliers then being required to match the lowest quotation or to justify the difference between their own cost of supply and the third party quotation. 

Service levels
It is essential for clearly defined service levels and objective criteria to be included in the contract. Service levels must be manageable otherwise both parties can spend an inordinate amount of time deciding what is, or is not compliant. Suppliers should seek to limit service levels to the critical parts of the service performance. If service credits are included then suppliers often seek to set them at levels which are lower than the actual losses suffered by customers, in order that they operate as a tool to encourage suppliers to perform to the required level rather than to fully compensate customers for all of the losses which arise.  

Liability
It is standard practice for suppliers to attempt to restrict their potential liabilities when entering into contracts and, in services agreements; the issue of liability will be of more relevance to suppliers than to customers. It is essential for suppliers to include an exclusion or limitation of liability clauses in the contract but they need to be approached with care. Be aware that if exclusions are too wide, or liability caps are too low, they run the risk of the entire exclusion clause being deemed ineffective. 

Termination
With regard to termination rights and notice periods, while customers often require unilateral termination rights, suppliers should always seek to ensure that these are mutual. Consider under what circumstances the termination rights should be triggered – it is standard to provide for termination for insolvency/material breach but customers may require a right to “terminate for convenience” upon a limited notice period. In this case consider if such a right is subject to payment of ‘stranded costs’ and ‘compensation’, which may take the form of a specified early termination charge.

While the above ‘key issues’ are not an exhaustive list of the issues which should be considered, prior to entering into a contract for the supply of handling and storage services, we consider that such ‘key issues’ require consideration and negotiation, even if the customer has considerable negotiating strength.