Management Contract

What Is A Management Contract?

A management contract is defined as an agreement between a firm or investor and a management company that enables the latter to coordinate and oversee all operational functions of the former. It helps to lower the burden of operating a firm, which otherwise would have to expend additional staffing and capital for the same.

It also provides a best-suited channel to help the business achieve economies of scale, brand recognition, and global scaling. Usually, the contracts have a period of more than ten years. It may also entail a fee of up to 10% of the total revenue. As a result, the hotel and airline industries extensively use the method in their business activities.

• A management contract is a legal agreement that allows a firm to take over the responsibility of managing certain aspects of another company as bound by the agreement in place of a certain percentage of the revenue.
• It allows the owner of the company to handle core business more efficiently and by saving costs, but the risk of losing business privacy and confidentiality looms over them.
• It provides an opportunity to serve international clients in the absence of foreign staff without any foreign direct investment, like in the hotel and airline industry.
• A franchise uses the complete business model and brand to earn revenue by paying fixed royalties. In contrast, management contract firms only charge for managing the operational aspect assigned to it by the parent firm.

Management Contract Explained

Management contract refers to a system of outsourcing the operational control of a firm to a different firm for it to perform all the managerial functions in exchange for certain fees under a legal agreement. For example, an organization hires a management company to hand over certain functions of the company to it. The management company then overtakes the function assigned and operates it in lieu of certain fees up to 10% of the revenue generated. The first ever recorded management contract was between Duncan Upton & Qantas in 1978.

It finds its usage mostly in those industries where the local skills do not match the skillset required to run the business. Plus, it involves the service provider to many international and high-class clients that require best-in-class services, amenities, and infrastructure. Moreover, one can see it as an alternative to foreign direct investments without involving huge investments and high risk, but it gives good returns.

Various such contracts exist, such as defense management contract agencies, project management contracts, property management contracts, and social media management contracts. The contract handling company needs an adept manager to handle the contract management process. The managers, before signing the contract, must ensure the inclusion of the three below-mentioned important components within it:

Components

Let us look at the components of a management contract:

#1 - Duration

It specifies the period for which the contracted company will remain in charge of the management of the firm that it hired. It has to have certain terms and conditions to continue the contract. Failure to abide by them may get the contract terminated before the duration of the contract.

#2 - Conditions

It forms the most critical, detailed, and extensive section of the management contract. It contains:

• The identity of the parties involved
• The aspects of the company handed over
• The functions getting transferred to the management company
• Operational responsibilities of the management company

#3 - Fees

The last but most important component of the agreement is the fees. The contract must contain the payment system and method employed for the entire duration of the contract to the managing company. It can either be a percentage or a fixed amount of the revenue generated by the management company.

Examples

Let us go through some examples to understand the topic better:

Example #1

Walmart signed a fresh two-year agreement with Rubicon Technologies on Nov 2, 2022, to ensure proper waste management. Rubicon Technologies agreed to conduct waste diversion besides daily waste collection and recycling at retail shops. In addition, the agreement expanded the scope of the existing management contract and included green waste collection and landscaping collection within it as well.

Example #2

San Diego County, in 2022, announced that it entered into an emergency management contract with Genasys Inc. to allow it to handle and operate its regional notification system. Genasys Inc. was roped in to manage the critical notification services and emergency management of San Diego County, California. The contract covers an estimated 5.8 million population residing in two million housing units.

The communication solutions of Genasys Inc. offer more enhancement for the preparation against natural calamities and other safety hazards. There is timely deployment of alerts and warnings to the people in case of emergencies on top of upgraded leverage of the current infrastructure.

Advantages & Disadvantages

Let us look at the advantages & disadvantages of a management contract from the table below:

Advantages	Disadvantages
One can concentrate on the firm's core business instead of looking after every detail.	It might create problems and difficulties for the business owner.
One can get enough time to expand the business to new geographies and dimensions.	Businesses may lose the privacy of their business model.
Businesses can take expert help in handling basic responsibilities related to workforce.	The confidentiality of certain products may get leaked to the outside world.
Certain companies fail to reach the desired success peak, which they can accomplish using contract management firms.	The parent company might get its best-performing employees poached as the contract management companies have contracts with many similar companies.
It maintains the consistency and continuity of business for the parent company.	A management company may never provide loyal and talented employees in the long run as they try to cut costs on hiring the best employee.
One can easily venture into international business operations using this model.	The quality of work of employees may reduce below par.
Many governments have used to upgrade and upskill the local human resources for performing required functions.	There might not be a proper connection between the employee and the employer leading to below-par performance of the firm.

Management Contract vs Franchise

Let us check the differences between management contracts and franchises using the comparative table below:

Management Contract	Franchise
Mostly it serves as a service contract between a firm and a service provider.	It acts as a licensing agreement.
The management company has no ownership contract with the parent company.	A franchise owner owns the business but pays for the brand business model, license, and logo of the company it uses.
Firms pay the management company its fees for managing the operational aspect.	It pays a certain portion of royalty to the franchise provider.
It gets deployed mostly by the services sector.	One can use it in any sector.
The firm does not completely hand over the business to the management company.	The franchise uses all aspects of the business of the franchisee company.
It can go up to 20 years. from 10 years minimum period.	It can go up to 20 years from 10 years minimum period.

Frequently Asked Questions (FAQs)

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