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Sears Holdings Corp. and Computer Sciences Corp. are at war over two words: “cause” vs. “convenience.”
This is no mere dictionary debate. Millions of dollars in termination fees are at stake as Sears ends a $1.6 billion, 10-year agreement to use computer, server, voice and data services from CSC—one year after inking the deal.
“Cause” means CSC didnt meet its obligations and Sears Holdings, formed by an $11 billion merger between Kmart and Sears announced in November 2004, can exit for a smaller fee.
“Convenience” means Sears exits the outsourcing deal due to a business change such as a merger or acquisition, according to CSC, but for a much higher termination fee. In a filing with the Securities and Exchange Commission, CSC says the Sears termination is “contrived to avoid or reduce termination fees of tens of millions of dollars.”
In a May 13 regulatory filing, Sears Holdings cited Computer Sciences “failure to perform certain of its obligations” as justification for ending the deal. It did not say what the failure was.
Both companies declined any comment, beyond their filings with the SEC.
But on Computer Sciences fourth-quarter earnings conference call May 25, its CEO, Van Honeycutt, said the squabble is headed to binding arbitration in a federal court in the fall.
That sets a precedent in the outsourcing industry, says Peter Allen, a managing director of Woodlands, Texas-based TPI, which counsels companies on outsourcing contracts.
“We dont expect anything to change through the fall, but we have differences and we need to resolve those differences,” Honeycutt said.
While resolution is months away, one thing is clear about the skirmish: There isnt a graceful exit. “This looks extremely acrimonious,” Allen says.
Mathematics could be motivating Sears Holdings if it doesnt rehire the roughly 200 employees given to CSC when the deal was initiated, Allen says.
In theory, Sears Holdings remaining technology team could take over CSCs chores. Sears had a tech staff of about 1,100 at the time of the deal. Computer Sciences would have to decide whether to retain or let go the former Sears team.
“Its speculation, but someone did the math to justify this decision,” Allen says.
The pact, signed in June 2004, calls for CSC to provide information-technology support services for desktops, servers, Web sites, voice and data networks, and decision support technology. Sears Holdings noted that the agreement was terminated May 11, but Computer Sciences “is obligated to continue providing these services for an extended period.”
How the deal gets sorted out could impact how Sears Holdings manages its technology infrastructure. Kmart chief information officer Karen Austin now oversees the technology of the merged companies; Sears CIO Gerald Kelly Jr., the architect of the CSC deal, has left.
Yet to be resolved is whether Sears Holdings will rehire employees absorbed by CSC. In any case, analysts say day-to-day management between Sears and Computer Sciences could become strained, just as the retailer works on integrating the operations of 1,400 Kmart stores and 2,400 Sears stores.
“Anytime there is legal activity, its a distraction,” says Greg Buzek, president of IHL Consulting. “Most folks are trying to figure out if they are going to have a job. Its uncomfortable.”
Next page: Keeping an outsourcing deal viable.
Keeping an Outsourcing Deal
Viable”>
Heres how not to get distracted, should your outsourcing deal unravel:
—Talk about the end, at the start.
According to Allen, an exit strategy should be laid out in the original contract.
TPI, which counseled JP Morgan Chase on its recently terminated contract with IBM, advises that outsourcing customers outline terms to rehire employees, absorb assets and establish business continuity procedures. “The fact that Sears and CSC are in court indicates that the contract didnt properly account for changes,” Allen says.
—Have proof ready.
Dont play the “for cause card,” unless theres objective evidence the provider failed to deliver. Buzek says its going to be tough for Sears Holdings to prove that CSC botched a 10-year contract in the first year—especially when the merger with Kmart could be construed as a convenient excuse for termination. “Sears didnt give CSC a chance,” Buzek points out.
—Dont make deadlines.
Ending an outsourcing contract can more often than not be handled behind closed doors, Allen says.
Customers always have leverage on outsourcing companies and can get favorable terms as long as a service providers up-front investment is recouped and the balance sheet remains intact.
“The client always has the right to leave,” Allen explains. “But you can usually get a win-win as long as the sides are mature and prudent about it.”