When Would You Benefit from an Escalation Clause?

Buyers' Training
January 2, 2013 — 1,393 views  
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Whenever you are signing a contract for any project, the most vital parameter is the money involved. Unless the financing is stable and sound, the contract often falls through. An important provision in a contract is the escalation clause. An escalation clause is an important tool to buffer changes in cost due to an increased price of the product. By this clause, both the seller and purchaser agree on a prefixed set of issues to determine the final value of the product or service purchased, keeping in mind the changes due to inflation or deflation.

How Does an Escalation Clause Work?

It may happen that during the tenure of a contract, there may be a hike in the price/cost of various materials or services. In these situations, the final value of the product increases. In order to protect the interests of the purchaser, the escalation clause includes equitable adjustments when the price of raw materials, labor, and other expenditures involved in the project increase.

As a purchaser, if you have an escalation clause included in your purchase contract, it helps you to plan and budget your expenditures well in advance. If the price of the product increases to a range beyond the limit of the purchaser, with the help of an escalation clause, he/she can have the option to terminate the contract. So, a prefixed agreement can actually benefit the buyer. The buyer will be compensated if there is a delay in receiving the finished product.

When Can You Benefit From It?

An escalation clause is one of the most beneficial, yet vital parts of any contract. It is important in almost all industrial sectors. You can benefit from it as a purchaser in various fields. Are you wondering how? Read on to know more about it.

An escalation clause will help you bid competitively and often successfully in any market.  Let us say, you are eyeing a sophisticated spectrophotometer for your R&D section that is listed at $1,000. However, the catch is that only a single piece is left and there will be a bid for it. You are not aware of the offers that others will make. To be on the safe side, you offer $2,000. Meanwhile, the other bidders have offered $1,200, $1,250, $1,300 and $1,400. The price can go up to $1,600 in increments of $50. So you end up buying the spectrophotometer for $2,000.

What if you had used an escalation clause and had agreed to offer $1,000 with an escalation to $2,000 in increments of $50? In this case, you would have still got the spectrophotometer, but at a price of only $1,450 since the highest bid was $1,400. Thus, with an intelligently made escalation clause, you would not only safely secure the instrument, but that too at a savings of $450. Additionally, you may also opt to discontinue with your offer if the value of the product is low.

So, an escalation clause can reap you huge benefits if you are only able to design it and handle it well. It takes care of the interests of the purchaser quite well. So, before making any contracts, it is important for you to negotiate with the seller and reach a mutually beneficial agreement.

Buyers' Training