Why IT Projects Fail: Price Revisions

One of the major reasons that IT projects fail is due to commercial and pricing issues. Economic shifts that take place during the term of a contract can impact the cost of goods and services, creating a need to revisit the agreed pricing structure. If the parties are unable to agree on fee adjustments, this often results in disputes or the termination of the project.

In the last part of this series, Why IT Projects Fail, we discuss the often overlooked, yet critical, price revision clause. To catch up on the other articles in the series, click here.

The purpose of a price adjustment clause is to facilitate discussion between the parties to ensure that fair and transparent price adjustments can be made during the term of a contract and/or on renewal. It enables the agreed price for services to be revised in response to specific changes or pre-determined instances. Price adjustments may be necessary for several reasons, including circumstances when:

• Unclear scope of work: The scope of work was poorly defined or communicated, which lead to the vendor basing the pricing on many assumptions.
• Under-pricing: The vendor initially offers low prices to secure the appointment, with the hopes of renegotiating the initial pricing during the contract term.
• Scope creep: The customer requires new features or additional work, which leads to increased budgets, extended timelines, and higher project fees.
• Market fluctuations: External market factors such as increased or decrease prices to materials, taxes, tariffs, inflation and currency changes impact the delivery of the services and costs to the vendor (which can result in increases or decreases to the overall costs).
• Third party dependencies: The final product incorporates third party products or services, which can be unilaterally increased by the third party, creating a knock-on effect on overall service fees.

A price adjustment clause needs to strike a balance between the parties' needs. From a vendor perspective, ensuring that the vendor is able to keep up with fluctuating costs during the term of the contract while providing the customer with certainty regarding the fees. From a customer perspective, ensuring that the vendor adjusts its price, especially in a long term contract, should the cost of delivering the products or services decrease, whether due to market conditions, technology used being dated, hardware reaching end of life, or increase in volumes.

Understanding how to structure and negotiate proper price review provisions are in both parties' interest and aid a mutually beneficial long term relationship. Some things to consider when drafting pricing provisions include:

• What triggers a price revision: The contract needs to include specific descriptions of when a price adjustment can occur. Common trigger events could include significant changes in material costs, labour rates, currency fluctuations, or regulatory requirements. While these triggers generally result in price increases, it could also result in price decreases. Therefore, another important aspect of the clause is whether these triggers will only apply to revisions affecting increases in prices or whether a price change can also occur when there is a decrease. From a customer perspective having benchmarking or price review provisions are important, especially in long-term agreements. This is to avoid being stuck in a contract where the customer is paying more than the current market price.
• Frequency of price revisions: The clause should set out how often price adjustments can be made to avoid uncertainty and abuse of the benefits of this clause. The frequency of when a price adjustment is permitted under the contract can be in terms of automatic triggers that are related to regulatory changes, periodic reviews that take place annually on the anniversary of the commencement date of the contract, or a change based on an event (such as change request) that alters the scope of work. Vague descriptions such as "adjustments will reflect market conditions" or "prices will be adjusted as necessary" lead to uncertainty because there are no objective measurement or criteria that can be used when a party wants to rely on this clause.
• Mechanism for price revisions: It is important to define what the calculation method for a price revision will be. The purpose of including a mechanism to calculate the price revision is to ensure that the changes are transparent. Depending on the nature of the services, these adjustments may be based on a pre-agreed fixed percentage or linked to an index, such as inflation or other agreed-to-benchmarks.
• Integration with other contract clauses: Price revisions are not limited to the specific price revision clause in the contract. Changes to fees can be triggered because of the implementation of another clause in the contract, such as change management or force majeure. For example, a service change request or the invocation of a force majeure clause may expand the project scope beyond the original agreement. Similarly, changes to specifications, or unforeseen conditions that require extra work or extending the project timelines can also trigger the need for a price adjustment.
• Resolving deadlocks on pricing: If all fails, and the parties are unable to reach a consensus, there should be a dispute resolution process to assist with resolving the issue. This process may include steps such as negotiation, mediation, or arbitration before litigation, ensuring that disagreements are handled in a structured and legally enforceable manner. Including a dispute resolution process helps prevent prolonged conflicts and provides both parties with certainty regarding dispute resolutions.

For long-term contracts, it is inevitable that the fees may need to be adjusted and a price adjustment clause provides a structured way to deal with change. A fixed price model, which was agreed to when the contract was concluded, can become unsustainable as economic factors evolve, whether it be due to increasing or decreasing market conditions. As such, the price adjustment must maintain flexibility without compromising stability.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.