Pricing Models and Choice of IT Service Providers

Among the various pricing models in vogue with the offshore based IT services providers, the key ones are time and material (T&M) and fixed price (FP) models. While there may not be complete data ( or at least I have not seen), on which ones rule the most --- my personal take is that T&M contracts should be accounting for almost 80% of the contracts if not more. The rest are mostly fixed price. There are some others like device based unit pricing, outcome related pricing which may be there in pockets but mostly T&M rules the chart.

This also shows the nature of engagement --- the customer owns the risk in such contracts -- and probably s/he don't mind it as the nature of work outsourced is chopped and packetized to ensure it follows the technologies, processes and skill requirements that already exist. However as corporations move to a managed services environment, if you can rely on your provider, then to help them realize the full potential of their innovativeness and cost-efficiency, one needs to look at pricing models like fixed price, utility based, transaction based or, outcome based. However, the difference across these models (apart from how you assess the charges and the risk ownership) is also the degree of control you, as the outsourcing enterprise, would wield. So, not only does it require a mature, stable and innovative partner with a track record, but it also needs the outsourcing enterprise to agree to let go control, to varying degrees to completely benefit from outsourcing.

It is not uncommon to see most CIOs embark on a roadmap starting with T&M model, with a stated objective to move to other more deeper models gradually, but somewhere down the road that does not happen -- often fuelled by the outsourcing enterprises' staff's need to retain control or due to the lack of leading-the-curve trait shown by the chosen provider. And then, between the choice of going for a new partner in the hope that it will be different or to continue with the current one but with a lower degree of involvement ( and no transition and a whole lot of other stuff to face) organizations often choose to continue with the chosen provider.

So, it is also important to choose a service provider carefully in the first place before you let them in. It is much more difficult than shifting to a new desktop manufacturer ( which in itself is not easy either!) when it comes to changing service providers for IT services.

Service Provider Consolidation

Many large enterprises over the years find themselves with mulitple IT outsourcing partners who were brought on board at different points in time for different pieces of work. Some times, it is a collated view of opportunistic out-tasking where the cheapest bidder gets small chunks of work till it emerges that the total cost of managing several contracts and service providers, outweighs the benefit of lower cost in siloed contracts.

Among large companies with substantial growth and those with multi-national business spread, it soon becomes apparent that having fewer partners incentivizes them to bring greater value not just with cost but with the quality of work. Clearly, if a customer contributed $5m of revenue, the focus woud be differnt from what it would be if the customer contributed $100m of revenue. It would get greater senior executive review and the outsourcing company would go further to ensure these revenue streams are protected and grow through a partnership.

This, in a free market situation, also acts as an entry barrier for smaller IT outsourcing players ( and actually in any industry with vendor consolidation). .That is why most large companies mature to outsource to few and large IT outsourcing providers only.

In fact, looking at the state of vendor split, size, number of outsourcing providers for an enterprise can actually also reflect on the relative maturity of these organizations in the outsourcing space. Each company has its own journey, driven by its strategy to outsource and its size.