Risks - Procurement Risks

In every significant procurement activity there are a number of potential risks. There are business and performance risks, legal risks and financial risks.  While I will address the risks in more detail in my book here’s a few examples of the types of risks that exist.

Business / performance risk involve having the right product or service at the right time.  This includes both the initial delivery but also on going use and support. Examples of business and performance risks are:

• Late delivery
• No delivery 
• Product or Service does not meet business requirements
• Activity requires substantial involvement and management by internal resources to be successful
• Supplier failures impact other activities (with potential claims by third parties for delays).
• Supplier fails to have the resources required to meet long term requirements

Legal risks involve ensuring the continued use of the purchase and protection against potential legal claims by third parties.  Examples of legal risks are:

• Claims for patent or other proprietary rights infringement,
• Claims for injuries or property damage by third parties,
• Claims by the Supplier for delays, damages, or changes.      
• Claims by the Supplier's employees, such as Supplier's failure to pay wages or benefits,
• Claims by government for failure of the Supplier to pay required benefits, taxes etc.
• Failure of a contractor to pay their subcontractors, which could result in liens against the work. 
• The impact of bankruptcy or insolvency on the work, rights in the work and Buyer owned materials or equipment loaned or consigned to the Supplier.

Financial risks involve ensuring that you get value for the initial purchase and the total life cycle cost remains competitive. Examples of financial risks are:

• All the legal risks and all performance risks will have a financial impact if not protected or managed.
• Product or services costs substantially more due to lack of control.
• Product or Service costs substantial more due to required changes.
• Change in Buyer’s requirements combined with either no rights of termination for convenience or excessive cost of termination has the Buyer continuing to pay for work no longer needed.
• Cost of long term service or support is uncontrollable or excessive. 
• Losses sustained for other breaches of the supplier's obligations such as breach of confidentiality requirements.

Each of these risks need to be managed in both the qualification and negotiation process.  Some risks may be transferred contractually to the Supplier. Others risks may need to be managed by the Buyer. If you transfer risks to the Supplier, the Supplier must have the assets and resources to stand behind those commitments, otherwise the risk and resulting cost may fall back on you. Risks that cannot be transferred to the Supplier need contract terms that allow the Buyer to manage them.

Examples of transferring the risk are:

• A fixed price contract is an example of a transfers the financial risk of performance.
• An indemnification provision against claims by third parties for personal injuries is a transfer of a legal and financial risk.
• The requirement that the supplier carry insurance is a transfer of the financial risk that the supplier may not have sufficient resources to stand behind the indemnification.

Examples of terms managing the risk are:

• Requirements for approval of Subcontractors, personnel.
• Requirements for approval of any changes to the Product or Service  

Most of contract negotiation falls into two areas:

1. Establishing whether the Buyer or Supplier will be responsible for the risk. That determines who pays any costs or damages if the risk occurs. That negotiation will also include the negotiation of any limits on their financial responsibility.
2. For risks that the Buyer must assume, the negotiation will be about the tools and controls that they Buyer feels they need to manage the risk and whether the Supplier will agree to provide them.