How Innovations in Pricing Can Lead to Increased Value

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Everest Group expert, Ross Tisnovsky, will discuss how buyers can strategically use pricing to address key issues and concerns in their outsourcing
relationships and highlight best practices for
improving value capture.

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How Innovations in Pricing Can Lead to Increased Value

  1. 1. Today’s webinar is brought to you byOutsourcing CenterToday’s webinar Upcoming webinarsHow Innovations in Pricing Can Lead to FAO Growth in 2010: Key Opportunities &Increased Value ChangesSynopsis: Date & Time:Everest expert, Ross Tisnovsky, will discuss how April 6, 2010buyers can strategically use pricing to address key 9:00 AM CDT/10:00 AM EDTissues and concerns in their outsourcingrelationships and highlight best practices for Speakers:improving value capture. Katrina Menzigian, VP-Research, Everest Group Saurabh Gupta, Research Director, Everest GroupAbout Outsourcing CenterOutsourcing Center is the world’s most prominent internet portal for authoritative information on outsourcing.The Center’s mission is to build the industry by helping people understand how to create value throughoutsourcing.outsourcing We serve the outsourcing community through: Trusted and objective third-party perspective Database of over 81,000 opt-in subscribers Relevant media including editorials, research, whitepapers, and the annual Outsourcing Excellence AwardsFor more information, contact Peter Bowes at pbowes@everestgrp.com 1 Proprietary & Confidential. © 2010 Outsourcing Center
  2. 2. Q&ATo ask a question during the Q&A session Click the question mark ( q (Q&A) button located on the floating tool bar in the bottom right ) g g of your screen. This will open the Q&A Panel Be sure to keep the default set to “send to a Panelist” Then, type your question in the rectangular field at the bottom of the Q&A box and click the send button to submit 2 Proprietary & Confidential. © 2010 Outsourcing Center
  3. 3. Introduction Ross Tisnovsky VP-Research Everest Group rtisnovsky@everestgrp.com 3 Proprietary & Confidential. © 2010 Outsourcing Center
  4. 4. How Innovations in Pricing CanLead to Increased ValueMarch 23, 2010
  5. 5. Competing buyer and supplier interests influence ITOpricingBuyer interests Supplier interests Maximum price flexibility and Secure profit and revenue growth transparency Decreasing prices year over year Ensure revenue grows proportionately with increased volumes or scope Potential capital avoidance Minimize exposure if volume or scopes change Shortest economical term possible Longest contract term possible g Minimize exposure to operational Minimize exposure to operational and financial risk and financial risk 5 Proprietary & Confidential. © 2010, Everest Global, Inc.
  6. 6. A well-designed pricing model should help align buyerand supplier interests Competitive but fair (win/win Lower than Higher than transaction) Competitive/Fair Customer must have competitive pricing; market market supplier must make a fair return; this helps the contract stand the test of time Predictable and flexible Totally Anticipate change in the customer’s All fixed Predictable/Flexible variable organization (i.e., volumes, (i e volumes merger/acquisitions, downsizing) Simple and easy to use Simple Simple/Easy to use p y Complex The approach must be easily understood and can b i l d be implemented with ease b t d ith by both parties Price to business outcomes All operational All business Where possible, align billing and metrics Outcome focused outcome contractual structures with buyer objectives Shared incentives Gain Where appropriate create incentive appropriate, Cost plus Shared incentives sharing mechanisms to help maximize the financial benefits for both parties 6 Proprietary & Confidential. © 2010, Everest Global, Inc.
  7. 7. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ banded Pass through Time and materials Structure Method Cost plus Milestone based Percentage Adjustment Open book of spend f d base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 7 Proprietary & Confidential. © 2010, Everest Global, Inc.
  8. 8. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Based on the Approach Fixed price supplier’s units of resource input to Baseline/ provide services banded Pass through Time and materials Structure Method Cost plus Milestone based Percentage Adjustment Open book of spend f d base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 8 Proprietary & Confidential. © 2010, Everest Global, Inc.
  9. 9. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ banded Based on the buyer’s Pass units of consumption/ through Time and volume of transaction materials Structure in a billing period Method Cost plus Milestone based Percentage Adjustment Open book of spend f d base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 9 Proprietary & Confidential. © 2010, Everest Global, Inc.
  10. 10. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Based on outcome Unit based Approach achieved by the Fixed price supplier’s Baseline/ contribution banded Pass through Time and materials Structure Method Cost plus Milestone based Percentage Adjustment Open book of spend f d base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 10 Proprietary & Confidential. © 2010, Everest Global, Inc.
  11. 11. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Set price agreed to Unit based Approach Fixed price at deal signing Baseline/ banded Pass through Time and materials Structure Method Cost plus Milestone based Percentage Adjustment Open book of spend f d base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 11 Proprietary & Confidential. © 2010, Everest Global, Inc.
  12. 12. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Costs from a third party paid by the Baseline/ supplier on client’s banded behalf Pass through Time and materials Structure Method Cost plus Milestone based Percentage Adjustment Open book of spend f d base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 12 Proprietary & Confidential. © 2010, Everest Global, Inc.
  13. 13. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ Client pays supplier direct or banded total costs plus an agreed Pass mark-up to cover through Time and If direct, the costs mark-up materials Structure Method covers overhead and profit margin i Cost plus Milestone If total cost, then mark-up based is only profit margin Percentage Adjustment Open book of spend f d base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 13 Proprietary & Confidential. © 2010, Everest Global, Inc.
  14. 14. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ banded Pass through Time and materials Structure Method Cost plus Milestone based Supplier provides client direct access Percentage Adjustment to relevant Open book of spend f d base segments of its internal costing Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 14 Proprietary & Confidential. © 2010, Everest Global, Inc.
  15. 15. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ banded Pass through Time and materials Structure Method Cost plus Milestone based Pricing can be periodically Percentage recalibrated to a Adjustment Open book of spend f d predetermined set of base external benchmarks” Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 15 Proprietary & Confidential. © 2010, Everest Global, Inc.
  16. 16. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ banded Pass through Time and materials Structure Method Cost plus Milestone based Pricing is adjusted periodically based Percentage on a predetermined Adjustment Open book of spend f d set of relevant base inflation indices Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 16 Proprietary & Confidential. © 2010, Everest Global, Inc.
  17. 17. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ banded Pass through Time and materials Structure Method Cost plus Milestone Supplier generates based improvement ideas whose costs and Percentage Adjustment rewards are generally Open book of spend f d base split between client and supplier Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 17 Proprietary & Confidential. © 2010, Everest Global, Inc.
  18. 18. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ Contractual mechanism to banded reward supplier for Pass innovation, leverage and/ through Time and or process improvement materials Structure Method Responsibility is primarily on th supplier i il the li Cost plus Milestone Client retains right to based reject changes Percentage Adjustment Open book of spend f d base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 18 Proprietary & Confidential. © 2010, Everest Global, Inc.
  19. 19. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Pricing per unit Unit based committed Approach Fixed price Can also be by Baseline/ strict unit consumed banded Pass through Time and materials Structure Method Cost plus Milestone based Percentage Adjustment Open book of spend f d base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 19 Proprietary & Confidential. © 2010, Everest Global, Inc.
  20. 20. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ Set amount charged as banded long as within expected Pass range of usage through Time and Baseline pricing within materials Structure Method a narrow range with unit-based pricing it b d i i Cost plus Milestone outside the range (ARC based and RRC) Percentage Adjustment Open book of spend f d base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 20 Proprietary & Confidential. © 2010, Everest Global, Inc.
  21. 21. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ banded Pass through Time and materials Structure Method Cost plus Milestone Client pays for based supplier labor hours at set rates and for Percentage Adjustment Open book materials, expenses, materials expenses of spend f d base and travel Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 21 Proprietary & Confidential. © 2010, Everest Global, Inc.
  22. 22. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ banded Pass through Time and materials Structure Method Cost plus Milestone Payments made only based as set schedule of Percentage activities Adjustment Open book of spend f d accomplished base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 22 Proprietary & Confidential. © 2010, Everest Global, Inc.
  23. 23. A holistic ITO pricing model evolves from theinteraction of multiple structural elements Input Output Outcome based based based Unit based Approach Fixed price Baseline/ Client pays a banded predetermined Pass percentage of spend or through Time and value gained to supplier materials Structure Can have a fixed base Method payment with rest as incentive Cost plus Milestone based Percent may vary over time or by size Percentage Adjustment Open book of spend f d base Market Inflation Reward Incentive indices adjusted sharingSource: Everest Research Institute (2009) 23 Proprietary & Confidential. © 2010, Everest Global, Inc.
  24. 24. Client rates negotiated in a contract becamemisaligned with market rates over time... CLIENT EXAMPLEOutsourcing context Key issue Desktop price was moderately increasing according to the agreement An enterprise buyer p y and became significantly misaligned with the desktop support market outsourced its IT rates due to advent of cheaper support technologies, e.g., remote t d t d t f h tt h l i t end-user support desktop management environment Illustration Contract price The contract duration was six Indexed price per desktop1 p p p Market price years 45% Desktop pricing opportunity was designed to stay relatively 128.3 83 stable over time, 115.6 120.1 120 1 109.8 after COLA 100.0100.0 105.1 adjustments UK RPI was the 68.0 agreed index Assets, software and personnel all included in pricing 2002 2003 2004 2005 2006 2007 1 Indexed to 100, UK RPI used to show effects of indexationSource: Everest Research Institute (2009) 24 Proprietary & Confidential. © 2010, Everest Global, Inc.
  25. 25. The solution was to ensure a price review triggered bya market index of technology CLIENT EXAMPLESolution Link existing output-based price to appropriate market indices that can serve as indicators of cost improvements. Trigger a price review Input- Output- Outcome based based based based on the threshold of market indices Alternately, Alternately have a periodic schedule Unit-based Approach Fixed Fi d price for a price review for services under Baseline/ consideration banded Pass- through Time and Structure MethodCaveats materials Cost-plus/ In more stable environments, e.g., Milestone open book based mainframes, the pain of adjusting Percentage Adjustment pricing to minor advancements in of spend base Open book mainframe technology usually outweighs the benefits in terms of Market Inflation Reward Incentive incremental savings indices adjusted sharing Technology cycles for certain products, e.g., PDAs and other end-user devices are extremely rapid, and this will prompt excessively frequent priceSource: Everest Researchservices reviews for such Institute (2009) 25 Proprietary & Confidential. © 2010, Everest Global, Inc.
  26. 26. The high incidence of Scope Change Requests resultedin reduced flexibility CLIENT EXAMPLEOutsourcing context Key issue The number of trouble tickets converted to SCRs by the supplier The buyer is a large increased exponentially over time Fortune 500 SCRs are like mini-projects billed at high rates as “uncontracted services” mini projects uncontracted services enterprise with a Increasing rate of SCRs acted as a deterrent to entering further trouble presence across tickets, constraining buyer ‘s IT users multiple geographies It has a complex applications Illustration environment, partly as Trouble tickets opened Scope change requests a result of multiple Other tickets acquisitions The buyer has a three-year application management 75% 70% 68% 65% 66% outsourcing contract 97% 96% 98% 90% Acceptable with an IT services level of supplier scope The deal is a fixed- 32% 35% 34% change 25% 30% requests price contract for 3% 4% 2% 10% maintenance of the Month Month Month Month Month Month Month Month Month buyer s buyer’s applications 5 6 7 8 9 10 11 12 13 portfolioSource: Everest Research Institute (2009) 26 Proprietary & Confidential. © 2010, Everest Global, Inc.
  27. 27. Switching to output-based pricing prompted thesupplier to resolve tickets without resorting to SCRs CLIENT EXAMPLESolution Alternative Switch to variable output-based approach pricing approach, where the supplier is paid based on the number of tickets resolved Input- Output- Outcome based based based This allows the supplier to align cost of delivery to business volume (i.e., tickets) Unit-based Approach Fixed price Alternatively, the buyer may Baseline/ incorporate up-front transformation in banded Pass- through the contract. Here, there is an incentive Time and Structure Method for the supplier to perform application materials Cost-plus/ portfolio rationalization through a gain- Milestone open book based sharing arrangement, which shares the value created with the supplier Percentage Adjustment base Open book of spendCaveatsC t Market Inflation Reward Incentive indices adjusted sharing Fixed price is still a preferred option for more stable environments where volumes are not expected to vary significantly over timeSource: Everest Research Institute (2009) 27 Proprietary & Confidential. © 2010, Everest Global, Inc.
  28. 28. User satisfaction declined due to mediocre first-callresolution ILLUSTRATIVEOutsourcing context Key issue Despite the supplier generally meeting expected performance levels, An enterprise buyer business users were dissatisfied with helpdesk services outsourced it IT t d its infrastructure Illustration including helpdesk First-call resolution metrics for helpdesk operations operations Business The contract users’ duration was five expectation (90%) years The price of 76% 76% 77% 73% 72% Acceptable providing helpdesk level (75%) services was linked to the number of calls managed by the supplier Technical metrics were monitored and tied to SLAs 2004 2005 2006 2007 2008Source: Everest Research Institute (2009) 28 Proprietary & Confidential. © 2010, Everest Global, Inc.
  29. 29. The buyer linked the helpdesk service price to uservolume rather than call volume CLIENT EXAMPLESolution Correct misalignment by pricing helpdesk service by number of users supported, rather than on a per-call basis Input- Output- Outcome This will incent the supplier to reduce based based based its cost of service delivery by driving efficiency in operations Fixed Unit-based Approach Higher productivity can be achieved price by adoption of self-help tools and Baseline/ banded Pass- more automated processes through Time and Structure Method materialsCaveats Cost-plus/ Milestone open book The above fix will not apply in a based situation where user needs fluctuate Percentage Adjustment Open book of spend base greatly, for example Move t a new OS significantly M to i ifi tl Market Inflation Reward driving up call by users for indices adjusted sharing Incentive migration support New security application roll-out requiring users to seek expert help q g p p from service deskSource: Everest Research Institute (2009) 29 Proprietary & Confidential. © 2010, Everest Global, Inc.
  30. 30. The supplier was reluctant to implement the latesttechnologies in an IT infrastructure environment HYPOTHETICALOutsourcing context Key issue Beyond contracted refreshes, the supplier was reluctant to bring the A large enterprise benefits of the IT innovation (e.g., latest technologies, new support buyer outsourced its processes) to the buyer ) t th b infrastructure in a Illustration transformational ITO ITO deal economics Cost to supplier deal The contract had y Cost to buyer typical Supplier’s characteristics of a investment in Operational transformation Supplier’s traditional ITO deal, costs margin in i.e., Long deal term ( steady state Effect of >= 5 years) one-time Supplier took transformation over client’s IT assets Effect of Supplier invested ongoing in up-front improvements transformation of the buyer’s IT environment en ironment Year 1 Year 2 Year 3 Year 4 Year 5Source: Everest Research Institute (2009) 30 Proprietary & Confidential. © 2010, Everest Global, Inc.
  31. 31. In order to innovate, the supplier needs to becompensated through a combination of reward-sharingand input-based pricing mechanisms ILLUSTRATIVESolution Introduce additional pricing scheme that shares a part of the benefits with the supplier for an agreed period of time, as a fair return on the Input- Output- Outcome based based based supplier’s investment in the transformational activity, subject to achievement of desired outcomes Unit-based Approach Fixed Fi d price Refund supplier for additional Baseline/ investments into innovation through banded Pass- input-based consulting fees, etc. through Time and Structure Method materials Cost-plus/ Milestone open book basedCaveats Percentage Adjustment base Open book Benefits of IT innovations are often of spend difficult to quantify, e.g., virtualization will drive up server utilization levels Market indices Inflation adjusted Reward sharing Incentive but might lead to the increase in the cost of server managementSource: Everest Research Institute (2009) 31 Proprietary & Confidential. © 2010, Everest Global, Inc.
  32. 32. Q&A Attendees will receive an email with a link to download today’s webinar presentation. To access a recorded audio version of this webinar, please contact Mark Williamson, mark.williamson@everestgrp.com For advice or research on pricing, please contact Everest: Ross Tisnovsky, rtisnovsky@everestgrp.com For background information on Everest, please visit: g ,p www.everestgrp.com www.everestresearchinstitute.com Thank you for attending todayTo ask a question during the Q&A session Click th Cli k the question mark (Q&A) button located on the floating tool bar in the bottom right of your ti k b tt l t d th fl ti t l b i th b tt i ht f screen. This will open the Q&A Panel Be sure to keep the default set to “send to a Panelist” Then, type your question in the rectangular field at the bottom of the Q&A box and click the send button to submit 32 Proprietary & Confidential. © 2010 Outsourcing Center

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