Benchmarking clauses and market comparisons

The recent judgment in Travelport Limited & others -v- Wex Inc shows how important it is to use precise language when drafting a clause involving a market comparison.

In this judgment, the Court was asked to analyse a complex "Material Adverse Effect" clause and, amongst other things, to consider the impact of an event on two parties, "compared to other participants in the industries in which [they] operate". 

The Court was asked to define the relevant industries (used as the basis for the comparison). This was a multi-layered exercise; the Court had consider the nature of the business, its participants and its "recognisability". It considered the factual matrix and the objective intentions of the parties in entering into the contract, including the ordinary allocation of risk under US law. The Court also assessed the ordinary and natural meaning of the word "industries" and concluded it must have been chosen deliberately and that it had a broader meaning than "markets", "sectors" or "competitors". 

This long and complex judgment shows the risk and uncertainty that can arise if a market comparison is not precisely defined.

Benchmarking clauses

Market comparisons are often used in benchmarking procedures. Benchmarking procedures are favoured by customers in long-term contracts as a way of ensuring that they get "value for money" throughout the term. The procedure often involves running a mini-competition mid-term to compare the supplier's performance or pricing with the market (or the benchmark). The purpose of the benchmarking clause is to define the rules of the mini-competition, including the consequences for the supplier if its performance lags behind the benchmark. 

Benchmarking clauses usually address five separate concepts:

1.  a definition of the services, key performance indicators or pricing to be benchmarked;
2.  safeguards to ensure the process is fair, to prevent it from being gamed by the supplier's competitors and to protect confidentiality (for example, appointing an independent party to carry out the process);
3.  the benchmark itself, how to arrive at a fair market comparison, the type of data to be sampled and how to align market data to the supplier's services (so that the benchmark is "like-for-like"); 
4. to define how a deviation from the benchmark will be quantified; and
5. the consequences and next steps if the supplier's performance or pricing deviates significantly from the benchmark.

In practice it is often difficult to draft an enforceable clause. Most suppliers are wary of a process which might reduce profitability and sometimes customers' expectations can be onerous and unfair. As a result, benchmarking clauses are often very complex to negotiate and difficult to operate. It is important to ensure there is a real, principled agreement about what will be compared. At the very least, the parties should try to avoid generic descriptions such as "industries", "markets", "sectors" or "competitors".