Managing contract renewals may sound easy on paper. However, for many organizations, it has proven to be a complex process with too many risk exposures, often thanks to poor management practices.
Taking the wrong approach to contract renewals can jeopardize your opportunity to renegotiate conditions, locking you in outdated terms, unfavorable obligations, and liabilities for another year!
Here, we’ve broken down the core concepts of contract renewal and how you can make it work in your favor.
What is contract renewal?
Contract renewal refers to the process of reinitiating a contract upon expiration of the original agreement or within a specified renewal period. This allows for the continuation of a mutually beneficial business relationship.
Parties may choose to renegotiate the conditions of the agreement or keep the contract the same for the new term.
Additionally, contract renewal can be manual, as in lease agreements and maintenance contracts, or automatic, as in subscription-based agreements like Software as a Service (SaaS) or paid memberships.
How does contract renewal differ from contract extension?
While contract renewal and extension focus on continuing business relationships, they do have core distinctions.
A contract renewal opens the door for a comprehensive review and potential overhaul of the agreement's terms. This could cover adjustments to pricing, service levels, or even a complete restructuring of the work scope, often resulting in the creation of a new contract.
On the other hand, a contract extension typically maintains the existing terms, simply prolonging the duration of the agreement.
The following conditions are most suitable for contract renewal:
- Business conditions have changed significantly, making adjustments to pricing, service levels, or other terms necessary to maintain a fair agreement for both parties.
- New technologies or market opportunities have emerged, requiring the scope of work or deliverables to be modified to stay competitive.
- There have been internal changes within your organization, such as a shift in strategic priorities, that necessitate adjustments to the agreement.
On the flip side, you may consider a contract extension when:
- There is a temporary need to keep the partnership running on the existing terms, such as when one party is experiencing delays or unforeseen circumstances.
- Both parties are satisfied with the current terms and are willing to extend the contract by a specified timeframe.
- A short-term extension can be used as a bridge while business partners negotiate a new, more comprehensive contract.
Imagine you're a cloud service provider running a large contract with a client company, and this contract’s expiration is near.
If the client's data storage needs have grown significantly, a contract renewal presents the chance to propose additional storage capacity at a new, competitive price point. Additionally, you could highlight the benefits of improved uptime guarantees or disaster recovery provisions in the renewed contract to justify the latest pricing.
However, if both parties are happy with the current service levels and pricing structure, but the client company requires a few extra months to finalize its budget for the next fiscal year, a short-term extension might be a viable option.
This would provide a temporary stop-gap while negotiations for a complete renewal continue, ensuring uninterrupted service for your client.
Also read: Why Contract Expiration Dates Are the Most Important Part of Contracts
Importance of contract renewals from the sell-side and buy-side perspectives
While contract signing marks the beginning of a business partnership, a successful renewal is often a testament to its resilience.
Here, we've covered the importance of contract renewals for your organization as you manage relationships with customers and vendors.
Sell-side
- Customer retention: Renewals are crucial for maintaining revenue streams and client relationships. Studies by multiple researchers have shown that retaining customers is generally more cost-effective than customer acquisition.
“My preferred way of working as a Fractional GC is to offer my services through a fixed monthly retainer. For example, a client can buy 10 hours a month, which we track together to ensure the work matches the retainer over time. Remember that you’re not simply charging for your time, you’re charging for the value you will bring to the table.”
~Stephanie Dominy, Consultant GC, and Startup Advisor
The Future of Legal Leadership: Why Fractional GCs Are On the Rise
- Predictable revenue: Contract renewals provide a level of predictability to revenue, which is essential for financial planning and forecasting. This predictability helps businesses to make calculated decisions about future investments, staffing, and product development. By securing renewals, organizations gain greater confidence in their future revenue stream, enabling them to plan for growth and stability.
- Opportunities for upselling and cross-selling: During a renewal, sellers can present new products or services that might interest the buyer, further increasing the value of the relationship.
- Identifying areas for improvement: The negotiation process can uncover areas where sellers can improve product offerings or service delivery. This buyer feedback can drive improvements and greater customer satisfaction.
Buy-side
- Cost savings and value optimization: Contract renewal provides an opportunity to reassess the costs associated with the goods or services your organization has received during past contracts. Depending on your needs, you can renegotiate pricing or adjust service levels to achieve a more cost-effective agreement.
- Performance evaluation: The renewal period allows you to assess the vendor's performance over the previous contract. Did they consistently meet quality standards and deadlines? This analysis can help you decide whether to renew or seek an alternative business partner.
- Addressing evolving needs: As your company grows and changes, your needs will too. A renewal provides the opportunity to revisit the original contract terms and ensure they continue to align with your current business objectives.
- Reduced risk: Renewing with a proven partner minimizes the potential for disruptions and delays that can occur when switching to a new provider. A new vendor may require time to understand your needs and implement their solution. There's also a chance that initial data migration or system integration might encounter unforeseen hurdles.
Risks associated with missing a contract renewal date
Depending on the nature of your contract, missing a contract renewal date can be a costly and frustrating experience.
While there could be a few reasons for missing a contract renewal (force majeure, for instance), failure to track and manage renewal dates is primarily due to poor contract management practices.
Regardless, it exposes your organization to the following risks:
#1 Accidentally locking your company in a contract it doesn’t need
Many contracts include automatic renewal clauses. Without careful monitoring, you could find yourself bound to a service or agreement that is no longer beneficial. This could be a software subscription your company has outgrown, a vendor agreement with unfavorable terms, or a lease on space you don't currently require.
Being locked in means you'd still need to pay for something that isn't adding value to your operations, negatively impacting your bottom line.
#2 Disrupting critical services
Businesses rely on various contracts to operate smoothly—think software licenses, vendor agreements, or leases. If one of these contracts lapses due to a missed renewal, you might lose access to critical software, raw materials, and specialized equipment.
This often translates into project delays, loss of productivity, and bad customer experiences on the frontend, all of which have direct financial and reputational costs.
#3 Missed renegotiation opportunities
Contract renewals offer a chance to renegotiate terms, pricing, or service levels to better align with your current business needs. Missing the renewal date means foregoing this opportunity, potentially keeping you stuck with higher prices or outdated terms for another year.
#4 Strained resources
An unexpectedly renewed or expired contract can throw a wrench into your plans. If a critical service lapses unexpectedly, you might be forced to find a replacement solution quickly, and the urgency could mean a higher cost.
Conversely, if you're stuck in an unexpected renewal, you might need to dedicate extra time, money, and personnel to terminate the contract or find workarounds. Either way, this can strain your company's time, finances, and productivity.
#5 Exposure to legal liabilities
As a business, if your contract with a client or customer automatically renews, you're obligated to fulfill its considerations. If you inadvertently miss a contract renewal by a few days and fail to meet your commitments within that time, you could face legal action for breach of contract.
Common challenges associated with contract renewals
Contract renewals are crucial to every business’s financial health. Yet many companies continue to struggle with poor management of these processes.
This can happen for a few reasons, some of which we've discussed below.
#1 Manual contract tracking workflows
Spreadsheets, manual email reminders, or even physical file systems can be time-consuming to maintain, susceptible to human error, and often lack the automation capabilities to generate timely alerts.
This can lead to contracts slipping through the cracks, resulting in missed renewal dates, potential service disruptions, and the inability to renegotiate for better terms.
Also read: Contract Reminder Software: How to Set Up Reminders for FREE
#2 Decentralized storage
When contracts are scattered across different departments, shared drives, or personal computers, it creates information silos.
This lack of centralization makes it challenging for stakeholders to know where the latest version of a contract resides, when renewal dates are approaching, and who is responsible for the process.
#3 Limited communication and collaboration
Successful contract renewals often require input and action from multiple people, such as legal teams, procurement, or the departments directly using the service.
Without clear communication channels and collaboration tools, stakeholders across departments might be unaware of upcoming renewals, their associated deadlines, and the various renegotiation points needed to optimize the renewed contract.
“I’ve often faced clients complaining about how they end up renewing unwanted contracts because nobody told them whether the contract was supposed to be terminated. I recommend SpotDraft to them because it allows you to set up renewal reminders weeks ahead of the last date of contract.”
~Mohammad Moiz, Vice President, Customer Success, SpotDraft
Automatic contract renewal
Automatic contract renewal is the process of renewing a contract for a predefined period prior to its expiry without manual intervention from stakeholders.
This is governed by an automatic renewal clause, which specifies the terms of the renewal process, including conditions for early termination.
Let's say your company has a 12-month contract with a cloud-based CRM provider. This contract includes an automatic renewal clause that allows it to renew after a specific period.
Unless a notice of termination surfaces within the timeframe specified in the clause, the agreement will automatically renew for another year.
While this has some benefits for businesses and customers, it also comes with disadvantages, as you'll learn in the next section.
Also read: Automatic Renewal Clauses: How to Mitigate Risks and Protect Your Interests
Advantages of automatic contract renewal
Businesses and customers that use auto-renewable contracts enjoy considerable benefits, including:
- No disruptions: Automatic contract renewals are primarily hands-free and require no extra paperwork. Thus, businesses and customers can maintain existing partnerships without disruptions.
- Predictable costs: Automatic renewals often lock-in pricing for a set period. This makes budgeting easier and helps you avoid unexpected price hikes.
- Streamlined operations: Less manual contract management means smoother internal processes. Your teams can free up resources and dedicate themselves to what matters most.
- Stronger vendor relationships: Automatic renewals demonstrate commitment and trust in your business partnerships. This can lead to better support and even potential preferential treatment down the line.
Disadvantages of automatic contract renewal
Automatic contract renewal presents a few drawbacks that businesses and customers must consider. Some of them include:
- Loss of flexibility: Automatic contract renewal doesn’t provide opportunities for renegotiations as it is designed to be hands-free. Thus, if your business needs or circumstances change, you might be stuck in a contract with outdated conditions for another term.
- Vendor lock-in: Automatic renewal can make it harder to switch providers, even if you find better options. Some vendors can take advantage of auto-renewals to keep you in the contract for as long as possible.
- Unexpected expenses: When contracts auto-renew, you might not be fully prepared or budgeted for the continued charges. This can lead to unforeseen costs that strain your finances, especially if the pricing has increased since you initially signed the contract.
- Forgotten commitments: Let's say your organization manages many contracts with auto-renewal clauses. Without the right systems, you can lose track of renewal dates and accidentally continue paying for services or subscriptions you no longer need.
“Surprisingly, one of the most litigated parts of any contract are the term and termination provisions. The term sets out how long the contract will be in effect. It can be a fixed term, e.g., 3 years. Or an “evergreen” term, i.e., the contract remains in effect (or keeps renewing) until either party gives notice of termination.”
~Sterling Miller, CEO and Senior Counsel for Hilgers Graben PLLC
I Know It’s Only Boilerplate (But I Like It)!
Best practices for managing contract renewals
As already discussed, poor renewal management can expose your organization to many liabilities. To ensure you never get caught in a scramble, implement the best practices below:
#1 Avoid contract silos
Contract silos occur when contract information is scattered across different departments, stored in inaccessible formats (like email chains or paper documents), and known only to a few individuals.
This fragmented approach to storing contracts is potentially chaotic and should be avoided.
Ensure that all contracts are organized in a unified repository. That way, they become easier to access and renewals easier to track.
#2 Review and negotiate renewal clauses upfront
During the initial contract signing process, carefully review the terms stipulated in the renewal clause. How long is the termination notice period? Is there a potential for price changes during auto-renewals?
Review these upfront and negotiate terms that aren't favorable for your organization. This will prove beneficial in the long run as you won't be met with any surprises.
“It is very important to always be clear when the contract will start. Additionally, be sure to spell out any conditions for renewal, such as any type of price escalation rights.”
~Sterling Miller, CEO and Senior Counsel for Hilgers Graben PLLC
I Know It’s Only Boilerplate (But I Like It)!
#3 Designate clear owners for each contract
Every single contract in your company should have a designated owner. This individual is responsible for knowing the contract's key dates (like renewal and termination deadlines), understanding its terms, and working with necessary parties within the company to evaluate and act on the contract if needed.
Defining ownership provides accountability and ensures that nothing slips through the cracks.
#4 Leverage a Contract Lifecycle Management (CLM) system
A robust CLM eliminates the hassles associated with managing renewals and other critical aspects of contract management. Platforms like SpotDraft fall into this category, revolutionizing how organizations handle contracts at scale.
Here’s how a top CLM can make contract renewal management a cakewalk for you:
- Centralized repository: This eliminates all the challenges associated with contract silos. A CLM provides a secure central repository for all your contracts. These contracts are stored and categorized with readable tags and parameters for searchability, giving you a strong foundation for efficient renewal management.
- Automated reminders: A CLM allows you to set automated reminders and alerts for critical dates. This ensures that contract renewals never slip through the cracks due to oversight errors.
- Tracking and reporting: With a CLM, you get access to comprehensive tracking features that allow you to see the status of all your contracts, including upcoming renewals. This allows for better planning and prioritization of activities.
- Workflow management: Robust CLMs can even automate workflows for contract renewals. This can include sending renewal notices to the counterparty, collecting approvals, and generating new contract documents.
Also read: Contract Renewal Process: Strategy + Best Practices
Never miss a beat with contract renewals
Renewal is a crucial part of the contract management lifecycle. It offers opportunities for re-evaluating and renegotiating conditions for better outcomes. Yet, it is not unusual to find many businesses getting caught up in unexpected renewals due to oversight and poor management.
To protect your organization from costly surprises, a proactive approach is non-negotiable.
If you're looking to take your contract renewal management to the next level, a CLM system could be the perfect solution—as discussed in this guide.
To help you choose the right system for your business, we have created the 2024 CLM Buyer's Guide. We've done the research, so you don't have to! Click here to access it.
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