How often should SMEs review business contracts?

review business contractsIn times of economic uncertainty, a careful business will regularly scrutinise its cash flow to ensure there are no hidden surprises.

When, as currently, costs rise profits decline unless sales prices, purchase costs and other expenditure are adjusted, and most businesses do this regularly by referring to their profit and loss figures in the accounts.

However, monitoring the management accounts does not keep an eye on the underlying obligations such as those for asset finance, service agreements or outsourced processes with both suppliers and customers where a review of these can identify scope for saving money.

Examples of cost savings following a review of contractual obligations include a recent client that was paying for computers on lease finance many years after the computers had been scrapped. The agreement provided for a three month notice that could have been terminated four years earlier. Another is the standard BT charge of £16.99 per month applied to business numbers to cover listing in their directory. It’s in the small print and very few clients seem to have spotted it.

Another good reason for a review of business contracts is that so many are old and out of date. An example is the agreement with suppliers. This is likely to have been struck as part of a credit application some years ago. An example is another client who had supply agreements with the major building materials suppliers including one with Travis Perkins that was fifteen years old. It was part of a credit application for as £10,000 facility and included personal guarantees given by the directors at the time. It was still in place despite all the directors having left and the facility being increased to £150,000.

So it makes sense to regularly review its business contracts.

Obstacles to changing business contracts

Having conducted a review of the contracts and identified any that are no longer fit for purpose, it may be necessary to seek expert advice and certainly to check the fine print as many contracts contain fees for early termination in the detail. Terminating leases is a particular area that needs advice.

While many agreements can simply be terminated against the contractual notice terms, others may require negotiation.

Even if terms for termination are reached it may be that help with drawing up a watertight and acceptable settlement agreement may be necessary. On the other hand, if agreement cannot be reached, this is where a specialist is needed.

Given the lack of legal experience and constraints on time in most businesses, reviewing contracts tends to be a low priority such that this should be done either as part of a formal annual review or it should be outsourced to advisers. As part of any review a company diary should be updated to flag any notice dates, termination dates and any specific agreements that might need a more frequent review.

What is not in doubt is that contracts should be reviewed regularly.

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