Insight | April 27, 2016

Context Matters When Negotiating Software Contracts

By Kareem El-Alaily

This article was originally featured on Federal News Radio as part of a series on enterprise license agreements. Part 1 focused on changing agency and vendor buying habits. For more information about Censeo’s Procurement and Operations or Strategic IT practice, contact Sarah Haack at shaack@censeoconsulting.com.

One of the expected — and much — ballyhooed outcomes of the new Federal IT Acquisition Reform Act (FITARA) legislation is the idea that there will be a master list of prices paid for all government-purchased software and hardware products available to the entirety of the government to use as a benchmarking tool when it comes time to negotiate new enterprise license agreements (ELAs) or hardware agreements. Armed with accurate governmentwide pricing data, the thinking goes, federal IT and acquisition personnel can source the best deal possible for their agencies.

This would, no doubt, be an upgrade over the status quo. Currently, agencies, bureaus and components generally negotiate with vendors without any idea of what other agencies are paying. By negotiating independently, large cost discrepancies have arisen and led to situations where one office is paying significantly more — by up to 40 percent — than another for the same product.

The FITARA legislation rightfully aims to end this poor practice and will attempt to level the asymmetric information gap between the government and its vendors.

However, construction of a master “prices paid” database alone does not automatically signify the onset of a new era of strategically sourced ELAs because it focuses solely on one lever (unit cost) without understanding the full scope terms and conditions of the deals being made.

“Vendors may offer substantial pricing discounts but make up those lost margins with grueling terms and conditions agreements,” said federal sourcing expert Curt Cote, a principal at Censeo Consulting Group. “Terms and conditions are frequently overlooked in the sourcing of deals, but they can be just as important as the license cost to keeping an agency’s total cost of ownership under control.”

The growing attention paid to terms and conditions are a result of the recent push from strategic sourcing to category management. Whereas strategic sourcing has historically focused on minimizing price, category management focuses on multiple levers in the software space including minimizing price, optimizing demand, reducing acquisition complexity and enabling future flexibility.

Though the price of the software may be the primary indicator of cost, software prices alone cannot predict total cost over the lifecycle of a product. Below are two (sanitized) examples of recent software deals from the same publisher. Which one is more favorable to the purchasing agency?

kareem ELA table

Trick question! The answer is “it depends.”

Option 1 provides best-in-class pricing, but the associated terms and conditions are unfavorable to the purchasing agency. However, this option could still be ideal for an organization that needs a bulk buy of regular licenses, requires no secondary products from this publisher and is confident that its license count would not shrink over time (i.e., no need for a true-down).

Option 2 is what many other organizations prefer because it maximizes terms and conditions despite the higher unit price. The purchasing agency will pay 6 percent more per license, but they get access to an ordering portal (which greatly simplifies the acquisition process), better discounts across the entire product line and the ability to true down their license count. This scenario is ideal for organizations that have de-centralized modes of funding, broad mission needs and fluctuating licensing counts. Although this option requires a higher per-unit license cost, the enhanced flexibility reduces the organization’s risk by allowing it to adjust demand while simplifying the acquisition and funding process and ultimately minimizing TCO.

In other words, context matters.

“Solely looking at software/hardware deals through a ‘prices paid’ lens does not provide a complete picture of a deal,” says Cote. “Maximizing the terms and conditions is just as important as the price paid, and federal agencies are starting to understand how to negotiate for both good prices and good terms.”

Ideally, combining the pricing from Option 1 and the terms from Option 2 would make an even better deal. The gatekeepers of a future FITARA-driven database would be best served by including terms and conditions details in addition to prices paid for each deal. This will further reduce the information advantage vendors have over federal customers and accelerate the government’s ability to land more favorable deals, saving tens of millions of dollars annually, while improving service levels and delivery capabilities.

Kareem El-Alaily is managing director for Censeo Consulting Group, a management consulting firm that helps mission-driven organizations operate more effectively. Censeo works with clients in the federal, higher education, national security, and nonprofit sectors to strengthen management practices and maximize the return for every invested dollar.