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Long term IT contracts – a problem for business?

By 9th May 2016February 1st, 2021No Comments
long term contracts a problem for business

Long term IT contracts were at one stage considered as the most viable option to protect businesses against high annual increases. The rapid development of new technologies has changed all that – top technology and services today may be superseded tomorrow. Somewhere in all this, there must be a middle road. We asked several industry players to give us their views on this and related issues.

Not so long ago it was customary to sign long term contracts/leases for PBXs, copy machines and large printers. With rapidly changing technology, how would you advise companies that still have several years before their contract expires on equipment that no longer meets their requirements?

Brian Timperley, MD and co-founder, Turrito Networks says he believes this risk lies very much in the engagement with the provider. Customers need to be aware of the next engagement with their incumbent service providers, many of whom have realised that the glory days of making substantial margins out of businesses over long term contract periods are over.

George Golding, CEO, Euphoria Telecom says, “Exit is always the best option. The biggest problem with a long term contract is that there is no way out. They generally come with either no exit clause or a heavy exit clause and zero discounted settlement terms. A recent example was a customer who signed a 60-month contract and after seven months they could not deal with the additional costs. Their settlement on the current contract was R230 000. Initially, they decided to stay with their existing provider until they were quoted a ludicrous R90 000 for three additional extensions and a VoIP card. This put them over the edge and they opted to pay the exit and move on.”

Karl Reed, chief marketing and solution officer, Elingo says there are two sides to the story. “The vendor has entered into a long term contract to ‘pay off’ the supplied technology, so if the contract ends early without a penalty or payback on the remaining term, then the vendor is set to lose ie. paying back what they supplied, someone has to carry this cost. Then you have the customer who entered into a long term agreement so that they didn’t have to pay a bigger agreement amount over three or five years, but extended it to ten years, thus drawing out the financial burden of what needs to be paid. So in short it would be extremely difficult for either the vendor or customer to reduce the term as someone has to cover the costs of the technology that was supplied. In some rare cases, the vendor can accept the term being reduced if, and only if, the customer continues to purchase “newer” technology from the same vendor, but then on a shorter term, say three or five years.”

Colin Fair, MD, Clarotech Consulting: “Firstly, companies should understand exactly what their out clauses are. Secondly, they should be asking how they can leverage existing equipment on long term leases by adding gateways to enable greater flexibility. Ask their providers if they would be prepared to convert their old legacy equipment? Finally, they should plan for a smooth, hasty exit the moment their contract expires by commencing the process of transition long before the term of the contract expires.”

Sacha Matulovich, sales and marketing director, Connection Telecom and CEO, FatBugie: “My experience is that you have to find the right solution for your business and then move on, even if it means that you may be paying double. Your revenue and productivity are important and in many instances more important than the capital expenditure.”

Willem Rossouw, divisional executive: strategy and technology, Bytes Systems Integration: “The main focus is business continuity and being able to effectively communicate with your customers. If your business is critically dependent on the communication and other infrastructure which is currently installed, it is imperative to calculate the cost of negotiating to get out of the contract to move to more effective, modern solutions which will add value, increase revenue and save on operational expenses.”

What would you consider is a reasonable contract or lease period to avoid being caught in a technology lockdown?

Brian Timperley says that technology lockdown is typically anything beyond  24 months. “The ideal contract terms that you want to be signing for these types of solutions are between twelve and 24 months. Businesses need dedicated services, which don’t generally benefit the same economies of scale as consumer services. This is the reason many consumer services are offered on a month-to-month basis. Considering businesses’ need for more dedicated service, it is reasonable to consider a contract approach, albeit relatively short term.

“The difference between twelve and 24-month contracts is purely price-based. So if you’re taking a 24-month contract, you’ll typically be getting the service at a reduced monthly rate. If the price point doesn’t deter you, then a twelve-month contract is always available and often very viable. Both of these options are realistic, and short enough periods of time to manage (and take advantage) of changes in technology.”

George Golding favours a month to month contract as the first option. “However, a one year contract followed by month to month could also suffice in certain situations. This gives businesses the control and flexibility to take on new and better systems as they become available. In today’s fast-paced business environment, one cannot predict business requirements over a three to five year period.”

Colin Fair: “This would largely depend on the type of contract. For connectivity where fibre is being installed, a two-year term is not unreasonable considering that it can take 120 days to install in some cases. But for a virtual PBX solution month to month should be reasonable.”

Sacha Matulovich: “There are two aspects that determine a contract. The first is when equipment is being financed by a supplier for a business, and in this instance, the contract is as long as the business wants the equipment financed for, which can be up to five years. It is not wise to finance equipment for longer than three years as these assets can become obsolete.”

Is technology lockdown due to the contract periods an issue?

Willem Rossouw: “Yes! It is becoming more of an issue as dynamic and flexible solutions become available. I believe there will be a period (until contracts come to an end) over the next few years where customers will be frustrated by the fact that far better options exist, but they will have to wait before these can be adopted. In future, it will be very difficult to get a customer to sign a multiyear contract, because of being spoilt for choice. Unfortunately, another factor plays a role, and that is the OEM (original equipment manufacturer) who builds products to lock customers into their own products.”

Colin Fair: “Technology ‘lockdown’ is not always a bad idea – sometimes as businesses, we chase technology changes/refreshes too often for the sake of it and don’t stop to focus on using the tools at hand. A good example is MS Excel. Version 2006 had many wonderful features. How many of these did we effectively use? We are too focussed on installing Excel 2016 as there seem to be cool features, which we never really use.”

Many of the systems that were on company premises are now available in software offerings and the cloud. Would you consider moving your PBX into the cloud? If you would, what motivates you? If you are a vendor, how would you motivate such a move?

Brian Timperley: “If you are an SME or agile corporate – there should be no question regarding a move to a cloud-based PBX solution, and other cloud-based offerings, simply because they are robust enough, mature enough and secure enough to easily manage the requirements of these organisations.

“It will be slightly different when you come to enterprise/larger corporates because their requirements are somewhat different, and these may supersede the scalability of these cloud-based solutions. This in addition to the fact that they have made significant capital investments in their own in-house solutions. The motivation to move will be very different to SMEs or agile corporates.

“As a caveat, we’d encourage businesses to make sure that they are 100% comfortable with the provider that is rolling out their solution. They cannot afford to end up with a fly-by-night provider, especially if they provide the actual cloud infrastructure.

“It is this very reason that businesses are far more comfortable going with Microsoft Azure or Google for Work as a cloud platform because they’re not going to disappear overnight. But, if businesses are using a small infrastructure provider that doesn’t have resiliency, redundancy and substantial financial backing, then there are significant risks.”

George Golding: “Companies should be careful when service providers require investment in costly on-site equipment like enterprise resource planning (ERP), mail and PBX servers. Expensive equipment is not necessarily more innovative or better, simply because it costs more. In contrast, on-site systems usually offer less than modern cloud-based systems. The biggest problem with expensive on-site equipment is the cost of maintenance and the limitations of the hardware itself. More importantly, these systems also require specialised and trained experts for maintenance and upgrades. These resources are scarce and it is an unnecessary cost to one’s business. One of our clients had a turnaround time of two weeks as a specialist had to fly to South Africa to get their phones up and running. There should be no need for specialised staff to get your systems to work. In fact, it should be so simple that your own internal IT staff should be able to configure and maintain the system.”

Sacha Matulovich: “Of all the benefits and features that one considers when making a technology decision, service is really what will matter in the end. The fundamental business model of software-as-a-service is that it is service-based, whereas the traditional equipment supplier is focused on selling you “tin”. The equipment supplier, at its core, is not incentivised to service the business after it has delivered the equipment, therefore software-as-a-service is fundamentally different in its construct. As a business owner, you want to be in a position where you receive excellent service by a provider who is well incentivised to provide excellent service. Switching to the cloud means you’ll receive service and if it’s down, the supplier’s support team will be fixing the problem otherwise it’s going to lose you as a client. Cloud equals excellent service and as a service, it gets better over time, whereas site-based assets age and become obsolete.

“Cloud offers customers centralised controls, reduced communication costs, future-proofing, flexibility, scalability and it integrates with other solutions in the business.”

Software as a service (SaaS) is widely available for many business applications. Have you or would you adopt SaaS as a solution for your company? What would motivate you? If you are vendor how would you motivate your client that it is a viable, secure and cost-effective option?

Colin Fair: “Yes! Clarotech has adopted SaaS and been using a customer relationship management (CRM) solution for the past three years hosted out of a data centre in London. It is the core of our business and has only on a few occasions been impacted with major undersea cable outages. The economies of scale achieved by the SaaS vendor means reduced per user per month costs as well as none of the hassles of power, cooling and backup worries associated with physical or virtual servers. The key is connectivity once again and without this, it is a non-starter. But costing will work for some depending on the application and the size of the business. There is never a one size fits all. SaaS is NOT the answer to every on-premise server.”

George Golding: “The software as a service (SaaS) or cloud subscription model means you only pay for what you need, allowing you to increase your functionality as your business grows. Customers immediately save between 30 to 50% over traditional systems as they no longer require or to maintain expensive hardware onsite.”

Willem Rossouw: “Customers will, without a doubt, save on the ongoing operational expenses of having onsite support technicians as well as ongoing maintenance and support cost. Furthermore, they will have greater freedom to move from one vendor to another. The competition will be largely in the service quality from the vendor, to attract and retain customers, and of course the monthly bill. In terms of security, it all depends on what the security mandate is for the customer’s business. Most viable SaaS vendors are certified to the teeth to conform to national and international security and other regulations.”

Many services come with licences for the number of users per company. Do you view this practice as business-friendly? Are these contracts flexible enough to accommodate changes as your business responds to market trends? Would you prefer a model where the number of users does not affect the lease agreement?

Colin Fair: “As long as the users are all actively making use of the services. The more customer-friendly method in our opinion is to work on concurrency rather than the number of users in the company. Take the example of a call centre with three shifts each with 200 staff so only 200 staff at any one time are logged into the system but this makes a very big difference to the cost of the solution if it is being sold as a per “named” user or a per concurrent user. This also should work well for ERP systems but may not be appropriate for systems.”

Karl Reed: “Licensing in the past was based on the number of users you had and not on usage and thus the support agreements were directly connected to that. This is coming to an end. In the majority of environments solutions and technologies are now based on usage – this applies to both on-premise and cloud solutions. Here the technology looks at the sustained usage over a given period (say month to month) and then billed for that usage. The support agreements are then aligned to that usage.”

Brian Timperley: “There is no perfect licensing model but the number of users in an organisation is probably the fairest of the ways to do so. Any business worth its salt should understand their business from a per-user basis; how much net profit after tax (NPAT) each employee is worth to their organisation. It is a strong way to understand the value and scalability of your business.

We believe this licensing model is the most scalable, most fair and most practical way to do it. It will depend on the type of solution put in place. Microsoft and Google follow the practice of per user, per month, so there is definitely merit in this approach.”

Thank you to our participants. From the discussion it is clear that long term contracts are something of the past and companies that are still locked in should give serious consideration to move on, take the pain now rather than lose market share or customers because their systems no longer offer what customers expect.

Some of the panellists made additional comments:

Brian Timperley: “Overall, to be an SME that survives and thrives in current economic times, you should avoid contracts that are beyond 24 months – it’s just too far into the future from a technology perspective. Choose providers that are flexible and engaged during the contract period, because it is important to have real partners in difficult times… not arm’s-length suppliers.”

Willem Rossouw: “Technology is evolving to a point where the so-called internet of things will shape the future of how customers purchase services. There is an emphasis on ‘services’, as traditionally customers bought a product to make use of the services. Vendors will, and are currently, on the brink of selling those services without having the luxury of a product sale. Think General Electric, who will sell ‘thrust’ – jet engine power by the hour, or in the refrigeration business, selling temperature instead of fridges, or voice minutes, instead of PBXs, or printed letters, rather than copiers and printers – the list goes on.”

Colin Fair: “Often systems are sold to meet targets and not with customers’ needs in mind. Our first objective must always be to find a way to help a customer in a long lease with equipment to extract the value and grant them the flexibility that newer technology might offer. As vendors, we need to work together to find solutions even if it might mean working with a competitor or allowing a customer out of an agreement early. What goes around comes around.”

This article originally appeared on EE Publishers.

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