Understanding long-term contracts in SME models

© stokkete – 123RF.com

The CPA specifically defines what fixed-term contracts are and stipulates that they cannot be greater than 24 months in duration. In addition, a consumer may cancel an agreement before the agreed expiry date by giving the supplier 20 business days written notice. The supplier however, may impose a reasonable penalty or charge for any goods supplied or discounts granted.

The effect of all of this is that consumers are beginning to understand their rights concerning 24-month contracts. This is good. However, an adverse effect is that some smaller businesses, or juristic persons, believe that they cannot enter into business-related contracts longer than two years and this is not ideal for several reasons.

Business-related contracts not part of CPA

Section 14 of the CPA, dealing with the expiry of fixed term contracts, does not apply to agreements entered into between juristic persons. It is important to remember here that a sole proprietorship is not a juristic person, whereas a close corporation or (Pty) Ltd is. Therefore, any formerly registered SME can enter into any long-term agreement, whether it is for the lease of a building or the lease of telecoms equipment. That is good news, especially for small enterprises, because there can be significant business advantages to entering into a long-term partnership agreement with a trusted and reputable supplier.

The advice should be that one should not focus on mere theoretical models concerned with lofty arguments of whether it is "right or wrong" to offer long term contracts of 24 months or more in duration. It is far more important for a business owner to ensure that a business model is created where one can always justify the reasons for the business offering long-term agreements to customers. If the cash flow stability offered by 36-month contracts, for example, means your business can provide additional value and exceptional service in terms of watertight SLA (Service Level Agreements), combined with ultra-competitive pricing, then who wouldn't want to sign on the dotted line? It is worthwhile to note that even in the consumer space; the CPA did not do away with long-term contracts because the benefits, particularly in the telecoms arena, are far too valuable and important to the end consumer. We are of course primarily talking about the subsidised handsets that would have fallen away without the ability to offer long terms agreements.

Long-term client contracts good

Concerning SMEs and entrepreneurs, one cannot overstate just how important long-term agreements are. They are very good business practice because they create more predicable cash flows and revenue streams, they gives the entrepreneur an incentive to invest in better service and network infrastructure, and they create substantial value on the balance sheet when selling the business (people in general will not attach much goodwill to unpredictable and uncertain future cash flows).

Finally, these agreements provide you with a buffer in difficult sales months as well as impulsive customer cancellations. This last point is an important one.

Long-term agreements protect you (up to a point) from an impulsive cancellation and give you the breathing space to resolve the issue. As the client is tied to you, he will more often then not give you the benefit of the doubt as it is not in his immediate interest to incur the cost of early cancellation.

If you are a business that is committed to good service, you can use this as an opportunity to resolve your clients' issues on the one side and on the other side educate that customer. Over time your relationship with that client should, under normal circumstances, grow and become stronger. You thus become the trusted expert and advisor and the client should continue to do business with you. Had he cancelled impulsively you never would have had the opportunity to save and nurture that relationship.

Long-term customer contracts are just one piece of the overall enterprise puzzle. However, they are still key and ultimately if the business is stripped of everything else, this is the one thing that still remains on your balance sheet and creates value for all stakeholders.