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Contract Management

The Difference Between a Vendor Contract and a Service Level Agreement (SLA)

Dec 23, 2019 by Venminder Experts

Understanding Vendor Contracts

A contract is an agreement between two parties creating a legal obligation for your organization and vendor to perform specific acts. Each of the parties to the contract are legally bound to perform the specified duties outlined within the contract.   

From a regulatory perspective, organizations must have a formal contract with vendors that provide products or services. The contract must clearly address the duties and responsibilities of all parties involved. In the past, some organizations may have had informal expectations for vendors that were not committed to writing or not adequately reviewed and, therefore, this created issues with enforceability, vendor risk management  and overall risk management. So, it’s a regulatory requirement and best practice to have a contract in place with all of your vendors.

What Should Be Included in a Vendor Contract

Along with generally accepted legal terms and provisions, contracts should outline the rights and responsibilities of both the vendor and the organization and include the following 14 elements:

  1. Scope of:
    • Support, maintenance, customer service
    • Time frames
    • Compliance with applicable laws, regulations and regulatory guidance
    • Training
    • Ability to subcontract services
    • Distribution of required statements or disclosures to customers
    • Terms governing the use of the organization’s property, equipment and staff
  1. Cost and compensation
  2. Performance measures and standards
  3. Reporting
  4. Right to Audit
  5. Compliance
  6. Ownership and license
  7. Confidentiality and security
  8. Indemnification, insurance & liability
  9. Dispute resolution
  10. Default and termination
  11. Customer complaints
  12. Subcontracting
  13. Business resumption and contingency plans

Understanding the Service Level Agreement (SLA)

service level agreement (SLA) focuses on the performance measuring and service quality agreed to by your organization and the vendor and may be used as a measurement tool as part of the contract or as a stand-alone document. The main purpose of an SLA is to spell out the level of service that will be provided. 

The SLA defines the level of service expected by your organization from a vendor, it establishes how the service is to be measured and the remedies or penalties, if any, for non-compliance with the agreed service levels. It should clearly state metrics, responsibilities, expectations and timing and frequency so that, in the event of issues, there’s an objective measure that can be used to gauge compliance with the terms of the contract. It ensures all parties have the same understanding of requirements.

Service level agreements provide your organization an opportunity to accomplish the following 8 items:

  • Outline expectations to the vendor during service level development
  • Clearly set remedy and penalty targets for non-compliance with service levels
  • Create a culture of high-quality service and accountability both internally and at the vendor
  • Formalize duties and rights of each party
  • Set benchmarks that each party expects the other to achieve
  • Encourage vendor delivery and consistency of service
  • Allow your organization to compare similar services across multiple vendors within your environment
  • Bring uniformity and consistency to vendor performance reporting

Most SLAs will start out with standard service levels provided by and favoring the vendor.  These should be viewed as a good starting point for negotiation and should not be taken as non-negotiable, no matter what the vendor initially states. Keep in mind that requests for service levels that are outside the vendors normal service level metrics may result in additional costs or fees. This is typically the case with vendors that provide a standardized service to multiple customers, like cloud-based service providers.

Service level metrics should include both service and management components

What Should Be Included in a Service Level Agreement

The 6 Service Elements of Service Levels

Six service elements include:

  1. Specifics of services provided
  2. Conditions of service availability
  3. Calculations of availability or uptime
  4. Standards such as time windows for each level of service
  5. Responsibilities of each party
  6. Escalation procedures

The 9 Management Elements of Service Levels

Nine management elements should include:

  1. Definitions of key terms
  2. Reporting process
  3. Remedies/penalties
  4. Report contents and frequency
  5. Dispute resolution
  6. Indemnification provision
  7. Change management
  8. Termination provisions for repeated SLA failures
  9. Both the organization and vendor’s key contacts/responsible parties

It’s crucial to remember that although the exact metrics for each service level vary depending on the vendor, the areas covered are uniform, specific and measurable related to volume and quality of work, speed, responsiveness and efficiency. In covering these areas, the SLA aims to establish a mutual understanding of services, areas prioritized, responsibilities, guarantees and warranties provided by the vendor.

Whether your organization has implemented a contract or a service level agreement with a vendor, both must be managed and reviewed periodically. Neither should be viewed as a static document as they will change. Both must be actively monitored, managed and include a defined framework for change management and monitoring during the term of the vendor relationship.

Is it time to renew your vendor contracts? Download this checklist to help.

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Venminder Experts

Written by Venminder Experts

Venminder has a team of third-party risk experts who provide advice, analysis and services to thousands of individuals in the financial services industry.

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