When one considers the challenge of translating the stated objectives of an outsourcing relationship into a pricing approach- and how approaches may in turn differ with different scope of services- it’s perhaps understandable that pricing models devised during contracting can be complex and are not always best suited to ongoing relationship management. Pricing approaches, after all, influence how the following typical objectives are in practise realised:
• Certainty and commitment- certainty for the customer of the costs they will bear, and commitment from the service provider to manage to and reduce these costs
• Matching of risk with opportunity for reward
• Visibility and transparency- of the relationship between scope, quality, solution and price
• Flexibility and ease of administration- for billing and internal recharging, and to accommodate changes in scope, timing and business volumes
• Encouragement of the right behaviours- to incentivise collaboration to drive further cost reduction (and even to drive innovation and value realisation…)
BPO arrangements typically seek to achieve these objectives using a fixed-price model- or at least a model based on a number of fixed components. Fixed pricing puts the onus on the provider to manage their costs down and provides guaranteed savings to the customer, regardless of the success of the provider in achieving the savings.
Given the complexity of BPO services and the dynamic nature of businesses over time, fixed price models are typically built up from a number of fixed components to add some transparency and flexibility. For instance, for a given scope of work a provider will commit to (or ’Fix’) the FTE rates (ie the price per resource), the chargeable FTEs (ie the number of resources which will be charged for), and the annual productivity (ie the annual reduction in resources charged for).
Together these components define a fixed annual charge with a fixed year on year reduction, and they also provide clear line of sight to the main price levers, and flexible ‘building blocks’ for adapting the pricing to the inevitable scope changes which are experienced at some point in the future and can otherwise lead to a return to the negotiating table. All this whilst maintaining the onus on the supplier to manage the costs.
For some more complex services (and for most larger arrangements which have a mix of different pricing approaches for different services) output pricing is an example of a more sophisticated fixed price arrangement which can be better suited than the afore mentioned and very common FTE based pricing. Just as transaction pricing uses a fixed price for every input (and is so suited to high volume standardised activity) so output pricing uses a fixed price for every output.
Output pricing defines a fixed rate for the final outputs or “deliverables” of the service. Output based contracts tend to focus on defining the deliverables in detail, rather than on defining the inputs to the service, how the service is to be delivered, or the resources to be used to deliver the service. In this way output pricing seeks to minimise constraints on, or measures of, how the service is delivered- or at least it is lighter in this regard. So this can result in fewer SLAs relating to process, and more focus on the right output. This can be particularly relevant where there is a clear (often physical) product, event or deliverable such as a physical asset, a report, a submission, or a contract. The benefits typically cited are:
i) Allowing the supplier freedom to drive maximum efficiency since they can deliver with an ‘open hand’, leveraging existing facilities and resources as effectively as possible and seeking innovative ways to deliver the end output (in practice this may just mean suppliers can get on with delivery with reduced customer scrutiny of and intervention in the internal processes). Another application of this is during the tendering process where different providers may use different delivery models, with the evaluation purely based on the deliverables.
ii) Accommodating more complex services which require a mix of inputs and a complex set of activities to complete the specified deliverables, where measurement of the inputs or the activities is not straightforward or even meaningful. Within BPO this is most often seen in areas such as analytics and reporting. For example a fixed price could be established per management report, per tax or statutory filing, or per customer profitability analysis.
That is not to say output based contracts are without any constraint, since there are often specifications defined with respect to delivery and transparency. These may help to provide confidence in the quality of the end deliverable.