Selecting the Right Statement of Work Structure Will Speed Up the Legal Review


Key Takeaways:

  • Selecting the right statement of work typeā€”fixed fee, time and materials, or performance-basedā€”depends on project scope clarity, flexibility needs, and risk tolerance.
  • Fixed fee SOWs provide cost predictability but require precise planning, while time and materials SOWs offer flexibility for evolving projects.
  • Performance-based SOWs focus on measurable outcomes, promoting innovation but requiring careful definition of deliverables and metrics.

Selecting the Right Statement of Work Structure Will Speed Up the Legal Review by Nada Alnajafi

As an in-house attorney, I have reviewed hundreds, maybe thousands, of statements of work (SOWs). When an SOW comes to me for legal review, my business client is expecting me to perform a quick cursory review before approving it for signature. But its not always that simple.

SOWs are not complicated to review from a legal perspective because they usually don’t (and shouldn’t) contain legal terms and conditions–that’s what the master agreement is for. But from a business perspective, SOWs carry most of the obligations and risks with respect to the project at hand. And its usually not until the legal review phase that the various dots are connected and structural issues are found. These late discoveries can slow down the legal review process.

Thatā€™s why choosing the right type of statement of work is key. By understanding the nuances of the different types of statements of work, organizations can select the approach that aligns best with their project needs from the very beginning of deal discussions. Whether seeking cost predictability, flexibility, or performance-driven results, choosing the right SOW structure from the outset is essential to project-success and reducing contract review times.

This article will provide an overview of the three most common types of SOWs and the pros, cons, use cases, and key contractual considerations for each.

Three Types of SOWs

One of the most common reasons for extended SOW reviews is that the project team selected the wrong type of SOW to begin with. And usually if the wrong SOW type was selected, then the wrong template was used, so the document does contain the necessary information to make that project successful. This creates both legal and business risks for both parties. These errors can be prevented by understanding the different types of SOW structures and how to select the best one for the project before the drafting begins.

For example, if my business client fills out a fixed fee SOW template for a project that does not have clear requirements or timelines, then the risk is very high that the vendor will be unable to deliver based on the current scope or that the customer will be unhappy with the end result. Instead, this project might be better suited for a time and materials SOW that offers more flexibility and is better suited to an undefined scope of work.

The three most common types of SOWs in the commercial contracting space are: 1) fixed fee, 2) time and materials, and 3) performance based. Each type offers unique benefits and challenges, making it essential for business professionals to understand their differences and applications. This way, when you send it off for legal review, you have already laid a strong foundation.

TypePayment BasisRisk AllocationFlexibilityScope Definition
Fixed FeePredetermined priceHigh risk for vendorLow flexibilityFully defined upfront
Time and MaterialsActual time and costsShared riskHigh flexibilityLoosely defined
Performance-BasedAchieved outcomesHigh risk for vendorModerate flexibilityResults-focused

Fixed Fee SOW

A fixed fee statement of work, also known as a fixed-price SOW, sets a predetermined price for the project. A fixed fee SOW is based on a clear and comprehensive definition of the projectā€™s scope, deliverables, and timeline. These are best suited for projects with well-defined requirements and minimal uncertainty.

Pros:

  • Incentivizes vendors to work efficiently within a given budget.
  • Allows for clearer resource and financial planning.
  • Customers assume minimal financial risk.

Cons:

  • Requires upfront planning by both parties.
  • Vendors bear the risk of cost overrun.
  • Lack of flexibility when it comes to mid-project updates.

Use Case:

Most common use cases involve creative projects, editorial projects, and limited scope or one-off projects. For example, letā€™s say a company wants to hire a vendor to create a website for the company and their maximum budget is $50,000. The company has a pretty good idea of what they want the website to look like, which features they want included, and a clear timeline of when it needs to be completed. A fixed fee statement of work would be a good choice for this type of project because the customer knows what they want so the vendor is able to price it out as a flat fee.

Key Contractual Clauses:

  • Scope of Work: For customers, make sure you thoroughly define your requirements. Even the things that you may think are very basic such as document format, specific colors to use, or that vendor testing is included.
  • Dependencies and Assumptions: For vendors, it will be important to carve dependencies and assumptions out from the scope of work. A well-drafted fixed fee SOW will have one section for dependencies which are the responsibility of the client, and one section for assumptions which the vendor is assuming is not their responsibility.
  • Modifications: Changes to the scope typically require renegotiation or amendments. Customers should try to include a clause that the vendor will not charge extra for minor modifications to the scope and that any modifications to the scope which will incur an additional cost must be pre-approved by the customer in writing.

Time and Materials SOW

A time and materials (T&M) statement of work compensates vendors based on the actual time spent on the project and materials used during the project. Unlike the fixed fee model, this approach allows for greater flexibility in adapting to changing requirements or unexpected developments. Under a T&M statement of work, the client is paying a pre-defined hourly rate for the vendorā€™s time spent working on the project, plus the actual cost of materials (such as software, hardware, supplies). While it offers flexibility, it necessitates close monitoring to avoid budget.

Pros:

  • Clients and vendors can adjust the project scope as needed during execution.
  • Allows for scope flexibility, making it ideal for projects with dynamic or uncertain requirements.
  • Encourages collaborative decision-making during the project.

Cons:

  • Rely on trust and open communication between both parties to manage expectations and budgets effectively.
  • It is difficult for clients to predict the final cost of the project.
  • Requires detailed tracking and reporting, increasing administrative overhead for vendors.

Use Case:

Common use cases for T&M SOWs include: software development, SaaS implementation, consulting services, strategic projects, ongoing or repetitive services. For example, imagine a SaaS implementation project where the full scope is uncertain at the outset. The customer hires the vendor at a rate of $100 per hour to implement their SaaS product with some customization. SaaS implementation projects often involve customization, data migration, integration with existing systems, and user training. The scope may evolve based on user feedback or technical challenges, making T&M ideal for accommodating these changes.

Key Contractual Considerations:

  • Resource Selection: Customers will want to define the experience level and background of resources placed on the project. Some customers prefer to interview the vendorā€™s project lead and have a right to replace that resource if they are unhappy with them for any reason.
  • Change Order Process: Make sure you have a defined process for changing the scope of work or extending the project. Is the vendor allowed to increase the hourly rate after a certain amount of time? Does the customer have to pre-approve extensions?
  • Termination Rights: Customers should ensure a right to terminate for convenience given that their financial obligation is tied to hours of work performed by the vendor. If the customer is unhappy with the services or if the budget is exceeded, the customer should be able to terminate the SOW and stop the vendor from continuing its services.

Performance-Based SOW

A performance-based statement of work (P-SOW) links vendor compensation to the achievement of specific outcomes or deliverables. Rather than detailing how the work should be performed, this type of SOW focuses on measurable results. Payments are tied to achieving milestones or deliverables defined in the SOW. Performance-based SOWs work well for outcome-driven projects, particularly when measurable results can be clearly defined.

Pros:

  • Encourages innovation and efficiency.
  • Clients pay only for successful outcomes, as defined by the pricing model.
  • Allows contractors flexibility in determining methods and strategies.

Cons:

  • Must be able to define clear and measurable outcomes.
  • Requires careful agreement on metrics and evaluation methods.
  • Vendors bear significant risk if they fail to meet performance goals.

Learn more: Check out our guest column on Performance-Based Contracts by Jeannette Nyden for more expert tips on drafting, reviewing, and negotiating performance-based SOWs.

Use Case:

Marketing and advertising campaigns, energy efficiency, and manufacturing projects are examples of common use cases for performance-based SOWs. For example, a marketing agency is tasked with increasing a clientā€™s website traffic by 20% within six months. The statement of work specifies that the agency will be paid $30,000 upon achieving this goal. The agency has full autonomy to design and implement strategies, such as running ad campaigns, to meet the target. The best SOW structure for this project would be a performance-based SOW because the client wants to pay for a result (20% increase in website traffic), not necessarily for the services (time spent by the agency to increase web traffic).

Key Contractual Considerations:

  • Compliance with laws: The vendor should be required to perform according to applicable laws, regulations, and corporate policies.
  • Subcontractor Flow Down: It is not enough that the vendor is required to perform the services. In addition, all the vendorā€™s subcontractors must be required to perform according to the clientā€™s stated requirements and legal obligations.
  • Milestones: Milestones are clear markers that establish a starting point, a completion point, or a critical check in point in a very lengthy implementation process. In addition, these points can trigger payment too, but not all milestones need to trigger payment. The checkpoints help the customer ensure that the work is being performed according to schedule and budget by tying partial payments to the completion of phases.

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2 Responses

  1. Thank you Nada, an informative article. What do you think about use of ‘not to exceed’ cost clauses in a T&M or Perf-based SOW? We find it still provides flexibility with a certain level of comfort that if the max cost is reached the parties will amend or wind up the engagement. It has worked fairly well for us as we do numerous SOWs, particularly with IT staffing agencies for projects where the not to exceed clause is helpful when the anticipated time (by $ per hour rate) is typically/initially an estimate.

    I hope you are well – any chance of joining us in Denver (October 6-7) for the WorldCC Americas Summit? It would be great to catch up (and to have you sign your fabulous book for me!). Rod

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