Negotiating the terms of a core processing contract makes haggling over a used car seem like child’s play. For most banks, the reality is stark—you might get some wiggle room on price if you’re willing commit to a longer term. You might also get a few changes on issues that “really matter.” But with only a few major core providers to choose from, these providers tend to think they hold most of the cards and don’t like to deviate from their form of master agreement. And when they do, they always seem to want a price adjustment. So it pays to be laser focused on the issues that matter to your institution and let the rest go. Here are some “core” considerations for your next core contract negotiation, or to any other major contract your bank may be considering.
Beware the Discount
Discounts are good, right? They save your bank money, and make you feel like you’ve negotiated a great deal. But before popping open the champagne, pause to consider what tradeoffs you’re being asked to make. Like cable providers, core providers often try to bundle services to get you to purchase things you weren’t otherwise intending to buy. They also may require you to agree to a longer term than you expected. Lastly, don’t excitedly push your team to meet a “discount deadline” at the risk of losing focus on other key issues in the contract—those so-called “deadlines” are usually flexible.
Bundle Up Blunders
Core providers use discounts to lure banks into adopting their newer, less proven solutions as part of an overall package. This helps the core provider grow market share with their new service, while also crowding out newcomers who might otherwise serve as pesky competition.
Bundling is probably fine for services that have been time tested and that you know should meet your customers’ needs. But what happens when your customer base doesn’t like your core provider’s half-baked online banking platform? Or their remote capture software is buggy, and the core provider can’t seem to fix it? If you have agreed to a package discount, you might be stuck living with those unsatisfactory bundled services and explaining to your customers why they aren’t working. The alternative may be to face the expensive cost of negotiating an exit and paying a big termination fee, since your overall pricing was based on your commitment to an entire suite of services.
If you’re going to agree to other services when negotiating your core, demo the system extensively. Talk with other bankers who have used it to determine whether they’re happy, what challenges they’re experiencing, and how proactive the provider has been to quickly fix bugs. Evaluate whether those challenges are ones you are prepared to work through with your own customers.
If you’re purchasing a completely new service that isn’t fully tested, be very wary. If you’re willing to take the plunge because the pricing is irresistible, insist on a rigid timetable and a drop-dead date for delivery. Establish defined service levels for determining whether the provider met your objectives and the consequences for failing to meet them. For example, consider building in an escape clause so that if the service doesn’t launch or doesn’t work well, you can get out of it (or get money back in the form of credits) without losing the other advantages you negotiated in your contract.
A Matter of Time
Selecting the term of your contract requires a balancing act between certainty and flexibility. We’ve seen several banks eagerly lock in an aggressive five-year (or longer) core contract with favorable pricing, only to try to sell their bank a year later. This is penny wise and pound foolish, since the cost of terminating the contract will consume a good chunk of the deal value, and serves as a basis for a major reduction in the purchase price. Imagine the unhappy mob of shareholders who get stuck footing the bill for a “discounted” (but very long-term) core contract with a huge termination fee.
Even if you’re not planning on selling your bank anytime soon, how confident are you that your provider is going to adapt to the technologically changing world? Some of the biggest core providers seem to have the biggest challenges with change. And with the pace of technological change in the financial services industry, greater flexibility in the form of a shorter term may actually be worth paying a moderately higher price.
Rights without Remedies?
You’d think that core providers would stand behind their technology if there’s ever a third-party claim. Think again. There are usually broad limitation-of-liability clauses in these contracts that may leave you without much of a meaningful remedy when facing third-party claims.
Say, for instance, that a patent troll comes knocking on your bank’s door claiming that you’re using infringing technology in your core. You pull out your contract only to find out that the core provider’s indemnity provision limits the amount of indemnity to the amounts actually paid by you in the past two months. Further scrutiny of the fine print reveals that to the extent the infringing service is itemized on your invoices, you are limited to the amounts you paid for that specific service. The provider then sends you a check for $25 and wishes you well in defending the infringement claim. This is a real-world example, and not so fanciful as one might like to hope.
Since third-party claims (particularly those relating to technology infringement) can easily cost hundreds of thousands of dollars to defend, it’s incredibly important to review your contract before you sign it and to get comfortable with the scope of the indemnity and any limitations on the core provider’s liability. Stay resolute in your negotiations on these points because you will undoubtedly get pushback from the provider. They will tell you that your favorable pricing is dependent on the “standard” limitation of liability clause and will threaten you with price increases if you want them to consider a change. Even after this routine, you’ll likely be left somewhat unsatisfied with the limitation you’re able to negotiate – but realize it was worth the effort because it’s better than what you were originally offered.
Don’t Be Glib about GLBA
Most bankers are now alert to their obligations in overseeing vendors, and particularly those who provide critical functions to their banks. And the good news is that the major providers of core services tend to have fairly well-developed provisions in their contracts around data security, confidentiality, disaster recovery, and vendor management. Nevertheless, these provisions should be reviewed carefully to determine what might still be missing.
For instance, what provisions are there for handling a data breach situation with the core provider, particularly if you’re outsourcing the core? What kinds of incidents are covered? How quickly must you be alerted? Is your bank in control of communications with your customers or does the provider take over? Who gets to resolve disputes and what kinds of remediation are available? If you’ve suffered any losses, are those covered by the indemnity clause you negotiated? These are only some of the variables you should consider in reviewing data security provisions.
Similar scrutiny should be given to other vendor oversight responsibilities. Don’t just accept as gospel that the provider’s standard provisions meet your needs. Sometimes providers attempt to weasel out of complying with local regulations, instead purporting to only be responsible for compliance with national privacy laws. Additionally, some vendors think they only need to comply with the strict letter of the law, when we all know regulators have offered endless guidance on these issues that needs to be considered. Examine with care whatever limited rights you are given and document your efforts to comply with the vendor management requirements even if you can’t negotiate every term you might like. If and when your examiner reviews your contract, you can at the least say that you tried to negotiate those terms into the contract.
Breaking Up Is Hard To Do…So Prepare for It
Nobody likes to talk about ending a relationship when it’s just beginning. But a well-drafted contract will set forth the rights and responsibilities of the parties if you part ways prematurely. Failure to do so creates ambiguity about the costs of terminating and can expose your bank to unnecessary expenses when the provider attempts (as they sometimes do) to gouge you on your way out the door.
Negotiate up-front terms that allow you to terminate for cause. The provider is charging you big money for these contracts, so it’s only fair that if they fail to materially perform and fail to cure that you should be able to exit the relationship without penalty. Again, detailed service level agreements can be key provisions in providing you an exit if you or your customers are unhappy.
Early termination costs without cause should be carefully spelled out, and you should anticipate the amount of the termination fee will relate in some way to the amount of time remaining on the contract when you terminate. While it may be unpleasant to forecast an early termination, clarity will ensure that you and your provider both know the stakes if you cancel early.
Deconversion fees and formats should be laid out, as well. Resist language that suggests you should pay the “usual” or “customary” deconversion fees, as those could end up putting you at risk for considerably more than a fair time-and-materials approach would cost. Seek to place a cap on deconversion fees or insist on a fee schedule. For example, if you are unhappy with your provider and choose to transition to a new vendor, how much will it cost you to transfer your data to the new vendor, and what file formats will your new vendor need? In our experience, these caps and schedules are typically available if you negotiate them up front. If omitted, you can almost certainly expect to pay more than you should to exit.
Don’t Go It Alone
Given the importance, value, and duration of these contracts—along with the added scrutiny of the regulators—bankers are cautioned not to try to save a few dollars and negotiate these without the help of professionals. Whether you hire a lawyer, a consultant, or both as a tag-team, make sure to get assistance from professionals who routinely negotiate these kinds of contracts and are familiar with the parameters likely available to your bank based on your size, the value of your relationship to the provider, and other relevant factors. The up-front cost will add an additional layer of expense, but they will save you money in the long run and they can sharpen your focus and tell you when a provision in the contract likely isn’t going to be negotiated based on industry norms.
By focusing on the things that matter (and those that the providers will actually negotiate), you can change the dynamics of your core contract negotiation and ensure that you end up with the best deal possible.