BEWARE OF AUTO-RENEWAL CLAUSES IN YOUR TECH CONTRACTS
It is very common for technology contracts to state that the contract will renew for an additional term if the contract is not terminated by either party prior to the auto-renewal date. While auto-renewal clauses are not blatantly bad on their face, certain risks need to be mitigated when agreeing to an auto-renewal clause:
When does the contract auto-renew? Typically, the contract will auto-renew 30-60 days prior to the expiration date. Once the contract auto-renews, you will have no longer have leverage to negotiate contract changes with your vendor for the renewal term. Therefore, you should mark your calendar at least 60 days prior to the auto-renewal date to start negotiations with your vendor. This 60-day period may need to be extended depending upon how long it would take to purchase and implement the same technology from a new vendor if contract negotiations with the incumbent vendor are unsuccessful.
For how long does the term auto-renew? Some auto-renewal clauses state that the contract will renew for additional 1-year terms while others stated that the contract will renew for a term equal to the initial term. We would recommend that, if the initial term is a multi-year term, the contract should auto-renew for 1-year periods to provide you with the most flexibility. You can always negotiate a longer term with the vendor, prior to the auto-renewal date, if the terms are beneficial to do so.
What price will be applicable to the upcoming renewal term? It is critical that you establish limitations on your vendors’ ability to increase prices for the renewal term. Sometimes, the contract does not address this issue and, in others, the auto-renewal clause will establish limitations on price increases, such as “the greater of (i) 5% over the preceding year’s price, or (ii) the increase in CPI over the preceding year.” The goal is to limit the possible price increase to as small an increase as possible, such as “no greater than 3% over the preceding year’s price.” While there is no assurance that the vendor will increase the renewal term pricing by the maximum allowable amount, you should assume, for negotiation purposes, that the vendor will.
When is the vendor required to deliver notice of the price that will be applicable to the upcoming renewal term? While the contract is often silent on this issue, the vendor should be required to provide written notice of any price increase applicable to the upcoming renewal term at least 30 days prior to the auto-renewal date. That way, you will have adequate time to consider the price increase and determine whether or not to terminate the contract. If the vendor fails to provide such notice, the contract will auto-renew at the then-current pricing.
As you can see, there is a lot to consider when reviewing auto-renewal clauses. If negotiated properly, auto-renewal clauses can serve to streamline the contract renewal process by removing the need to enter into contract amendments when no contract changes are needed for the upcoming renewal term. However, in situations where the vendor is unwilling to provide the buyer protections discussed above, you should consider deleting this clause from the contract.
Telergy LLC is a cost management consulting company helping middle-market companies, including professional service firms, reduce and control their Technology, Telecom and Energy costs. To contact Telergy, please send an email to Mark Friedman, Chief Optimization Officer, at firstname.lastname@example.org or call 312-736-8900x100.