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Editorial

Outsourcing Contracts - Key Issues

February 2005 - Corporate & Commercial. Legal Developments by Landwell.

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In recent years, the number and size of outsourcing deals in Ireland has grown. This is primarily due to an increased emphasis on reducing costs and the realisation that outsourcing can result in growth and be cost effective. Outsourcing transactions are complex, both in terms of the negotiation process and commercial understanding and the subsequent delivery of services over what will usually be a period of years.

In recent years, the number and size of outsourcing deals in Ireland has grown. This is primarily due to an increased emphasis on reducing costs and the realisation that outsourcing can result in growth and be cost effective. Outsourcing transactions are complex, both in terms of the negotiation process and commercial understanding and the subsequent delivery of services over what will usually be a period of years.

Landwell, in conjunction with the PricewaterhouseCoopers outsourcing team, has extensive experience in acting for both suppliers and customers in relation to various outsourcing transactions. Most recently, both teams advised Independent Newspapers plc on the outsourcing of its payroll, accounting and telesales functions, providing advice from the earliest strategy stage, through supplier selection and to full implementation of the contract.

Why Outsource?

By outsourcing a non-core business activity or function to a third party (the "service provider"), a company will seek to reduce its operating costs and free up resources to concentrate on its core activities. By outsourcing, a company can also increase capacity, capitalise on new business fields and transform and optimise its business. Outsourcing may not be suitable for all types of companies in all types of circumstances. The cost cutting benefits of outsourcing will not be realised if the outsourcing strategy is not well aligned with the company's business or if costs are only saved at the expense of customer service.

Key Elements of an Outsourcing Transaction

Preparation

In order for outsourcing to be successful, the company's management should have a clearly defined idea of its service requirements including key deadlines and deliverables before entering into negotiations with the service provider. At the outset, management should work out the current costs of providing the service in-house as a yardstick for assessing the service levels required.

Structure

The company should seek expert advice on what structure would best suit it for receipt of the services having regard to cost and tax implications and other considerations. Legal and professional advisers will be able to assist to identify the company's requirements, prepare and undertake the tendering process and negotiate the outsourcing deal.

Due diligence

A thorough due diligence will identify all existing third party contracts required to provide the service and their assignability, will include an audit of software currently in use and identify what is held under licence. Due diligence should also identity any employees who will transfer to the service provider as part of the outsourcing arrangement.

Tender Process

Once management has carried out a due diligence and defined the services to be outsourced, it will usually enter into a competitive tender process. With the guidance of the company's professional advisers, management will prepare a Request for Proposal. Outlining the company's requirements on the scope of the function to be outsourced, the service levels expected, the company's financial requirements together with key legal requirements.

The Service Contract

Once a bid has been successful, the main document to be negotiated is the master service contract which will govern the parties' future business relationship. This should include provisions to deal with a range of issues across all stages of the relationship from inception and planning, through transition and implementation to steady state and exit:-

Some Key Legal Issues:

  • Transition/Implementation. The contract should specify the length of any transition period and define the precise services and service levels to be performed. Are there penalties for delay, e.g. liquidated damages? Is there a right of termination if adequate service levels have not been met?
  • HR Issues. Where a company outsources a function previously undertaken in-house and, as part of the outsourcing, the employees performing that function transfer over to the service provider, the European Communities (Safeguarding of Employees Rights on Transfer of Undertakings) Regulations, 1980 and 2000 (the "TUPE Regulations") will usually apply to those employees. This means that these employees will have the right to transfer their employment to the new service provider on the same or improved terms and conditions and rights, to be informed about the transfer and be consulted in relation to it. The TUPE Regulations provide for a minimum of a 30-day consultation process with employees regarding their transfer. This will have timing implications for the process. Employees can in certain circumstances refuse to transfer to the service provider. The Regulations can also apply on termination of an outsourcing arrangement on handing over responsibility to another service provider or back to the company. The TUPE Regulations can have a significant effect on any proposed outsourcing arrangement and failure to comply has significant potential penalties. It is an area where specialist legal advice is required particularly at an early stage in the process.
  • Management. The contract should also contain governance, reporting, training, planning and review provisions. On-going management and control of the relationship with the service provider is a key factor to success.
  • Change Control Mechanisms. The contract should clearly outline agreed procedures for contract changes and changes in services, scope and service levels and, if applicable, changes or improvements in technology, during the term of the contract.
  • Data Protection. If personal data is being transferred to or is accessible by the service provider, the service provider must contract to comply with its obligations under European data protection law.
  • Intellectual Property. The parties should agree who will own any intellectual property used or developed by either party during the process. It may be necessary to obtain third party consent to the use of third party intellectual property by the service provider.
  • Disaster Recovery Plan/Audit. Even the best service providers can go insolvent so the service contract should contain a contingency plan to migrate the services back in-house on short notice. The company should also retain the right to carry out an audit on the service provider's operational and financial facilities at any time throughout the contract.
  • Termination. The service contract should clearly set out when, how and who can terminate the contract and the consequences and costs of such termination e.g. who will own the intellectual property and assets required for the provision of the services on termination?

Contact Us

This article is intended to provide a brief overview of the key issues associated with outsourcing transactions. If you are a business thinking of outsourcing a non-core function or a service supplier and you wish to discuss any of the issues raised with us please contact:

 

Edward Evans
Solicitor
edward.evans@ie.landwellglobal.com
Ph: 01 6626855

Elaine Walsh
Solicitor
elaine.walsh@ie.landwellglobal.com
Ph: 01 6626806

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