Negotiating Service Levels in Outsourcing Agreements: A Checklist

Determining the service levels that a service provider will have to meet in performing its obligations under an outsourcing arrangement is a critical aspect of the negotiation process. This third article in our outsourcing series provides a checklist of issues that organizations should consider prior to negotiating the agreement so that surprises and misunderstandings can be avoided.

To be truly meaningful, service levels should:

  1. cover or describe portions of the outsourced services that are measureable (i.e., the applicable services can be accurately measured and validated by the supplier); and
  2. provide the customer with confidence that the service provider will be able to perform the services better than it is able to perform itself (or better than the customer’s current service provider).

When considering service levels, ask yourself:

  1. Have you established a good baseline of the service levels that are currently being achieved? It helps if you have a reliable record of the service levels that were achieved either in-house or with another service provider prior to negotiating service levels with the prospective service provider.
  2. Have you made your service level expectations clear to the service provider? If your expectation is to achieve the same or better service levels than those you are currently enjoying, it is worth communicating that expectation to the prospective service provider prior to negotiating the agreement (e.g., in the applicable RFP or term sheet).
  3. If you have been clear about your service level expectations, have you also made it clear to the prospective service provider that the pricing provided must reflect those service level expectations? If you are going through an RFP process —  and assuming all else is equal — it may be useful to ask the prospective service provider to include pricing based on a number of different service level scenarios so you can better gauge the savings or incremental costs associated with a particular service level.
  4. Are there any service levels that are so vital to your organization that you will want a right to terminate the services or the agreement if those service levels are not met? It is important to keep in mind that such termination rights are for the protection of your organization — you shouldn’t have to meet a complicated series of criteria before your right to terminate the services is triggered. Also, there should be no ambiguity as to when such termination rights arise. Remember that having the right to terminate does not necessarily mean you will exercise that right; it usually takes a lot for an organization to decide to walk away from a service provider.
  5. Do the service levels apply to services that will provide value to your organization if the service levels are exceeded? If so, you may want to consider a bonus or earn-back mechanism to encourage the service provider to exceed the service levels.
  6. Does the agreement include a mechanism for dealing with the service provider’s failure to meet service levels? At a minimum, the mechanism should address: (i) how fast the problem should be escalated; (ii) when the problem must be resolved; and (iii) what the service provider will do to prevent such failure from reoccurring.

    Taking these service level issues into account should help you negotiate an outsourcing agreement that will more effectively meet the needs of your organization.