At first glance, the term “vendor management program” may seem a bit vague and complicated. In a broad sense, this term refers to the set of tools, processes, workflows, rules and guidelines to ensure that vendor relationships provide the intended benefits to the organization without bringing excessive risk or causing harm. Throughout the vendor relationship, there are important activities, including identifying suitable vendors, pricing and contract negotiations and relationship management. When an organization outsources a product or service to a third party or fourth party, controlling costs, maintaining quality and managing risk are essential considerations.
Let’s review some important details about vendor management programs to help you remain confident in your vendor relationships.
What Is the Purpose of a Vendor Management Program?
It’s important to understand why you need a vendor management program in the first place. With a well-designed program, your senior management and the lines of business will be better informed to do the following:
- Control costs
- Drive service excellence
- Mitigate risks throughout the vendor lifecycle
Keep these three goals top of mind as you carry out your vendor management practices.
Three Levels of Protection for Vendor Management
To achieve the vendor management objectives, you’ll need to understand the following levels of protection and the important function of each role. These levels may also be referred to as the three lines of defense by financial institutions.
- First Line or Level of Protection - The Business Units: The business units are the front-line individuals who interact with the vendors daily. They’re the experts on vendor products and services and are best positioned to identify and manage risks associated with their vendor relationships. This role is frequently referred to as the Vendor Owner.
- Second Line or Level of Protection – Compliance or Dedicated Third-Party Risk Management Team: Consists of the team(s) that oversees the vendor management program and provide the instructions and requirements for the front line to follow. They’re also responsible for the effective execution of vendor management across the organization. This role is typically called Vendor Manager or Third-Party Risk Manager.
- Third Line or Level of Protection – Internal Audit: The compliance and audit teams responsible for evaluating the program to ensure that the business units, or vendor owners, are performing their obligations according to the requirements laid out in vendor management program. They will review the structure and execution of the vendor management program to validate that it effectively identifies, assesses, manages, and monitors risk and is compliant with all rules, laws and regulatory expectations.
The Stages of Vendor Management
When an organization doesn’t have a separate third-party risk management function, vendor management often takes responsibility for the whole end-to-end process. Following the stages of vendor management is a reliable and effective practice and ensures consistency when managing vendor relationships.
Here are the stages:
- Scoping is essential in getting the best of your third-party risk management resources. During scoping, business requirements are established, and the need to outsource the activity is confirmed. From there, prospective vendors are identified, and a plan to manage the vendor relationship is established.
- Inherent risk and criticality assessments make it possible to understand the risk a vendor poses your organization. The risks associated with the product or service and the vendor performing the activity must be identified first. The goal is to understand the most amount of risk the engagement could pose, how critical they are (or will be) to your organization and what type of vendor controls are necessary to manage that risk.
- An essential part of vendor management should include gathering and analyzing due diligence to determine residual risk. This is called due diligence and residual risk determination and means reaching out to the vendor to obtain items like financials, SOC reports, policies and procedures, business continuity planning reports and more. Take it a step further and thoroughly review the information provided to verify that it meets your expectations. You can use your first line of business or vendor owners to help you obtain the documentation and internal subject matter experts to assist with reviewing (e.g., CPA for financial reviews and information security team to review SOC assessments) before determining the remaining (or residual) risk.
- The vendor selection and contract management stage consists of choosing the best vendor and writing a sound contract. This involves negotiation, change management and ongoing maintenance. Developing standard contract terms and conditions is an important element of a vendor management program. For example, you should always define your organization and vendor’s rights, responsibilities and expectations in the contract. In addition, consider the term of the contract and the conditions under which it can be terminated. Managing the contract to ensure renegotiation or termination is essential, and a solid vendor management program supports effective contract administration.
- Ongoing monitoring is a huge component of any vendor management program. It’s a best practice to closely monitor your vendor’s performance, and it’s extremely important to continuously monitor the vendor’s risk profile to identify problems and new or emerging risks.
- Last, there is termination. If the vendor relationship must come to an end you’ll need to confirm there is a solid exit strategy that outlines if the organization will replace the vendor or bring the activity in-house. Ensure that the termination process requirements are defined and met to safely and soundly exit the relationship.
There’s so much to a vendor management program. Understandably, it can be overwhelming. However, with the right knowledge and tools, you can set up your program for success.