Value Based Pricing for

Outsourced IT Services:
Are Customers Maximizing Gains By Mapping
Pricing with Service Catalogue?



A Suggested Approach








The importance of picking the right outsourcing deal is critical in view of the long-term
strategic implications it has on cost savings and performance quality. The choice is
between pursuing a traditional, transaction based or outcome oriented pricing model.
The deciding factors depend broadly on the level of flexibility and control an
organization is willing to wield on the overall operations.

This white paper focuses on discussing outcome based pricing models with the objective
to highlight its aptness in meeting present-day outsourcing needs and its advantage over
Fixed Price (FP) based pricing model. This paper covers the various options in outcome
based pricing that customer could opt for. It also tells you how to overcome challenges in
choosing the right pricing model that could be a win-win solution for customer and
service provider.

Executive Summary

The outsourcing business environment over the past decade has evolved considerably.
While there have been far-reaching changes in technology, delivery and operations
areas, pricing models havent kept pace with changing times. As a result, clients fail to
maximize benefits of optimization gained in technology adoptions.
As pricing models are continually evolving, this is transforming the way outsourced
services are priced. As in other software projects, the one-size-fits-all pricing model
does not apply to outsourced services. Given the vast scope of offerings like green field
development, support services, enhancements, quality assurance and testing, pricing is
based on scope of work and service requirements.
This white paper discusses the evolution of various pricing models with the objective to
share the knowledge gathered by Syntel with the reader about how best to respond to
outcome based pricing models. This paper also talks about pricing objectives, challenges
in choosing the right model and the process to identify applicability of a suitable result
based pricing model.
We hope this paper provides customer better insight into pricing strategies with service
provider.

Table of Contents
Executive Summary
Market Overview
Traditional Pricing models
Outcome (Unit of Work) Based Pricing Model
o Ticket Based Pricing
o Work Packet Based Pricing
o Test Unit Based Pricing
o Pay per Use
o Business Outcome Based Pricing
SaaS Pricing Model
Mapping Pricing Solution with Service Catalogue
o Understanding Pricing Objectives
o Defining Measurable Output
o Identifying Suitable Pricing Model
o Proposing New Pricing Solution
Pricing Maturity Models Keeping Pace with Change
Suggestions to Overcome Challenges
Conclusion
Value Based Pricing Syntels New-Age Solution
o How we help our clients

Market Overview

World economy has gone through a fundamental economic reset. Organizations across
the globe are constrained to cut cost of operations, while at the same time they place
strategic focus on IT transformation and business process transformation opportunities
to gain competitive advantage.
Today, IT optimization means more than typical cost cutting measures and
consolidation, to considering opportunities like reducing infrastructure outlay via cloud,
or moving to newer engagement models that ties business outcomes to IT spend. Along
with other optimizations, pricing models have also matured. In fact, IT firms that were
not particularly critical about gauging the specific value of pricing models have begun to
question the specific value of what they pay for.
While most buyers still negotiate for T&M (Time & Material) or FP (Fixed Price)
contracts, the more forward-thinking are moving towards business outcome-based
pricing models. Apparently, clients are seeing value in switching from a traditional IT
outsourcing model to an outcome-based model.
Last few years has seen a rapid increase in usage of outcome based pricing models
across different types of engagements. Some commonly used models are Pay per Use,
Ticket Based, and Business Outcome Based etc. In selecting the right pricing model,
companies must focus on service and support as the key differentiators, to ensure a
long-lasting, win-win service engagement.
We hope this paper provides a better insight into pricing strategies with service
provider.

Traditional Pricing Models

Traditional pricing models are effort based formats that offer flexibility of modifying
size and scope of service during the contract. The primary objectives of this model are
to deploy ready to use skilled resources and achieve optimized cost advantage.
Workload management function is handled by customer, and customers pay for what
they use. This model is preferred when scope of services are continually evolving in
nature. Service Provider is paid a predetermined rate based on the type of resource
deployed and their skill-levels applied.
A more evolved pricing model is where service provider is responsible for delivering
work based on predetermined milestones, while meeting expectations at a
predetermined price. Any deviation on meeting timelines and/or quality targets could
result in deferred payments or even attract financial penalties. Customers prefer this
pricing model for greater cost efficiency and to shift greater accountability to service
provider in terms on timelines and quality factor, besides sharing consequences of
underperformance.
One of the limitations of these pricing models is it does not provide flexibility to either
client or service provider to act in an economically efficient manner to manage cost.
There is very little traceability between price paid for the service and actual milestones
accomplished. This is especially significant in a weak economic scenario where both
client and service provider is looking at options to not only reduce costs but also
achieve greater flexibility in controlling spend.
Here are some limitations of traditional pricing model:






Drawback of Traditional Pricing Models
Client unable to gain complete benefits of outsourcing
May not be directly linked to customers business outcome
Risk of Cost fluctuations due to changing requirements lies with
customer
Strong possibility of under/excess staffing resources
Outcome (Unit of Work) Based Pricing Model

This refers to a pricing model where service provider is paid based on the business
outcome realized by customer. This could be based on number of units / transactions or
Units of Work (UoW) involved. The process for paying service provider varies, but
generally, payment is made at pre agreed frequency or when the result is accomplished,
In transaction pricing model, customer pays service provider based on number of
transactions processed. It is therefore important to determine scope of each transaction,
what are the inputs, outputs, measurement mechanism.
Determining the right outcome based model, therefore, is important in Unit of Work
based pricing. This structure is usually determined by identifying the unit that best
represents the underlying transaction and the costs related with processing that
transaction. The following are some variants of outcome based pricing model:
Ticket Based Pricing
This refers to a model where pricing is a direct function of ticket as a unit of work. This
model is primarily recommended for application maintenance or support services
where service is calculated in terms of number of tickets raised.
Work Packet Based Pricing
Work packet is a group of activities bunched together into small projects (preferably
repetitive). There are various categories of work packets defined for an engagement,
presumably from past pattern of usage. Any deliverable that can be mapped onto a pre-
defined delivery set can be priced under the Work Packet based category. This is a
highly flexible UoW pricing model as it enables team to define their base unit for
defining the pricing strategy.
Test Unit Based Pricing
This refers to a model in which customer pays only on consumption basis. It also
enables use of risk based testing by prioritizing the regression suites to be executed
based on business risks and available budgets. These models can apply to exclusive
testing and quality assurance outsourcing contracts or testing services within overall
ADM outsourcing contracts. Depending on engagement maturity, Test Unit can also be a
test case which offers lot of business control.
Gain Share
Gain sharing is essentially an outcome based pricing model that relates to pay for
performance kind. In this model, service provider gets additional revenue beyond base
price as bonus based on savings realized due to operational efficiency. While this model
emphasizes the benefits gained by customer, it nevertheless rewards service provider
for performance delivered. This model works in cases when a partnership approach is
needed to achieve a mutually-beneficial result, such as reducing purchase spend. In
gain-sharing model, both parties have incentives to work together creatively to achieve
common goal. It is critical to setup clear baselines, targets and mechanisms to measure
and report. Overall, this pricing model is supportive of a partnership approach that
benefits both client and service provider.
Business Outcome Based Pricing
This model is leveraged by clients who want to reduce risk related to IT investments
and align outcomes with business results. In this model service provider shares a
percentage of revenue and picks up partial cost of creation or enhancement of a
product. This pricing model has multiple variants. Some of the variants are complete
pricing tied to business outcome, joint investment made by the customer and service
provider and revenue shared in pre decided ratio. In some cases the Service provider
may also get base (assured) price till a pre defined revenue cap, beyond which service
provider get % revenue share. The level of engagement in either model depends on
customers openness to adopt the pricing model.
Outcome based pricing is emerging as the preferred pricing model by businesses. Key
considerations for clients to achieve success in this pricing model include:
Get buy-in support from major internal stakeholders
Decide on crucial business metrics, success criteria and measurement timeline
Assess service providers experience in handling large deals
Gain clarity and agreement on needed Investments, profit sharing terms and
conditions and timelines
Scope definition and roles and responsibilities
Ensure regular executive reviews to track progress
Following are some advantages and disadvantages of outcome based pricing models:
Advantages

Disadvantages

Linked to customers business outcome
Smoothly aligns customers and service
providers interests to facilitate
partnership, improvement and ongoing
progress





Not easy to segregate service
providers involvement and determine
its impact on outcome
Service providers ability to achieve
outcome may be inhibited by
customers people resources,
infrastructure, systems, etc.



SaaS Pricing Model

Software as a Service (SaaS) is a model of system deployment wherein an application is
hosted as a service and provided to customers across the Internet. Traditionally,
software companies used to purchase software products and incur heavy costs in
deployment and employee training.

SaaS is a new way of delivering software to companies, without having to make huge
investments to meet their business needs. In this arrangement, software is hosted and
maintained by service provider, whereas customer pays only for usage amount.
SaaS model provides the flexibility to combine the cost of maintaining and upgrading
the required hardware, software and other IT resources to support business needs. This
pay-as-you-go subscription model enables companies to convert fixed to variable costs.

There are different methods used for charging customers. Most commonly used pricing
models are:

Subscription Based These could be based on weekly, monthly or yearly
subscription. In this pricing model, customer pays the stipulated fee, irrespective
of time and level of service used. Customers engaging in this model seek price
protection and benefit from higher usage. However, there may be minimum and
maximum number of application user criteria.

User Based In this arrangement customer gets charged based on number of
users who will access the application.

Unit Fees Based - Customer pays for each unit that is used. For instance, user
will be entitled to pay only for bandwidth used and no more.

Time logged Based In this model instead of paying a monthly or weekly
subscription fee, customer prefers to pay for duration application was used.

Transaction Based: In this method, customer pays for each business transaction
executed by the application





Benefits of SaaS Pricing Models

Customer does not need to commit huge upfront Investment
Committed quality of service
Improved agility to respond to changing business dynamics

Mapping Pricing Solution with Service Catalogue
The importance of mapping the right pricing solution for outsourced services is critical
in view of long-term strategic implications it has on cost savings and performance
quality. The alternative can be between pursuing an existing model and going for an
evolved one.
The deciding aspects could hinge largely on the level of flexibility that an organization is
willing to assume and the degree of control that it wishes to exert on the overall
operations. However, it is difficult to point out one most suitable pricing model that
exists in the business. Moreover, the requirements of client may differ over time.
The following are some major steps that need to be considered at this stage:
Understanding Pricing Objectives
First step is to understand client objectives for shifting to Evolved pricing model. At this
stage, it typically involves service provider understanding clients business model,
business criticality, end customer sensitivities and pain points, etc. Data collection
around performance, current efforts spend is also given high importance at this stage.

Defining Measurable Output
Once service provider gains overall understanding of clients business, next step is to
classify various activities into UoW vis--vis previous model. A detailed report is
submitted to client to highlight observations and associated activities that are classified
into UoW and should also have well defined inputs and measurable output. At this stage,
activities start taking shape of a measurable service. Moreover, service provider may
also spell out indicative performance metrics that can be leveraged to measure
performance. Outcome of this exercise should be to get broader agreement on
classification.
Identifying Suitable Pricing Model
Next step is to identify suitable pricing model that can be applied. Map various activities
to a specific pricing model; define needed inputs, outcomes, and dependencies for
completion of an activity. Mechanisms to measure, track, escalate and reporting are also
designed. RACI (Whos Responsible, Accountable, Consulted and kept Informed)
Metrics are defined and clearly articulated along with roles and responsibilities of
participating teams to ensure client objectives are met. Next step involves identifying
right price for various activities, which involves historical data mining, considering all
possible levers/automation that can be applied, applying organization productivity and
coming with a price per UoW. This could be a single price across all multiple activities or
differential pricing based on nature of activities. Focus is to establish single price across
UoW.
Proposing New Pricing Solution
Final step is proposing the solution along with benefits to client on cost, improved
performance management system, ability to meet frequent changing needs, more agility
in operations etc. Once the agreement is reached, next stage is to start execution of the
engagement in changed pricing regime.
Pricing Maturity Models Keeping Pace with Change
Pricing Maturity models can be defined as having four maturity levels, as depicted in the
below.
Unmanaged
At this stage organizations do not have a defined strategy for outsourcing. Each business
group usually has an independent plan and pricing mechanism. Key objective to be
achieved at this maturity level is to achieve cost arbitrage and ready to deploy resource
pool on need basis.
Standardized
An enterprise implements a defined strategy for outsourcing with predetermined
pricing structure. At this stage organization may engage in both T&M and fixed price
model based on needs, risks envisages but every business group complies with pricing
process laid out. This model facilitates improved cost management as price is linked to
measured output.
Optimized
At this stage of maturity, organizations have defined objective metrics to measure
output delivered by service provider. Organizations may also evaluate joint investment
with service provider based on risk assessment. Organizations are able to improve
predictability by measuring outcomes and reducing total cost of ownership.
Value Driven Pricing
At this stage of Maturity organizations pay price based on value delivered by the
investments or cost is linked to pay per use. There are mechanisms build to measure the
business value delivered before committing investments. The organization is also in
best position to manage cost by prioritizing initiatives thus reducing TCO.









Suggestions to Overcome Challenges

A study by IDC Research says IT budgets across enterprises are experiencing declining
growth rates each year and significant portions are being diverted to new compliance
and security mandates. While it is understood that services are critical, but for the first
time, enterprises are questioning if their investments are justified by the actual business
returns.

As enterprises play a more active role in determining that value, they will no doubt
arrive at a pricing model that offers significant value. Here are some considerations to
keep in mind while choosing the right pricing model:

o Choose an appropriate pricing model that aligns both parties interests including
customer and service provider

o Determine a mutually agreeable process to address requirements fluctuations

o Concur on defining and measuring SLAs during the early phases of the engagement
and use this data for base modulating them for the remaining term of the contract

o Usage of Evolved Pricing Models to share business risks with the Service provider


Conclusion

Outsourcing has evolved from a tactical opportunity to a strategic necessity for
clients. Outcome based pricing models are altering how customers buy and pay for
their outsourced services.
Organizations today are more focused than ever to find ways to reduce cost of
operations minimize risk, raise quality and gain maximum price flexibility and
transparency. Newer pricing models are being explored to deliver higher business
value, and at the same time provide control on amount spent on operations and
transparency.
It is crucial to decide which pricing model should be applied in mapping outsourcing
deals. While customer will be more open to looking at multiple options in an effort
to justify IT spend, service provider will look for minimum operational and financial
risk, consistent revenue growth and profitability, long-lasting engagement term
possible and commercial feasibility.
However, an effective pricing model would be one that helps in aligning the interests
of customer and service provider. It should lead to reaching a price that is
competitive yet profitable, flexible, but not stifling.
Outcome based pricing works best with better appreciation of how it benefits both
parties. Some of the odds in arriving at a suitable pricing model can be resolved by
ensuring closer cooperation between customer and service provider. Other hurdles
would get eliminated significantly as stakeholders attain maturity and experience
from broader acceptance of this pricing model, thus resulting in cost reduction,
increased efficiencies and service level improvements.

Value Based Pricing Syntels New-Age Solution

As organizations look for innovative solutions to meet their current and future
budgetary constraints, value based pricing integrated into a managed services model
provides a compelling alternative to optimize outsourcing costs. Syntel pricing model
Value 2 Price (V2P), a non-linear estimation and pricing system is designed to support
this purpose. Its objective is to put customers in the drivers seat with absolute control
over the price they pay for the value of services needed.

The Value 2 Price (V2P) framework, which is integrated with the Syntels AMO 2.0 Suite,
provides a complete solution for Application Management in a Managed Services
environment with a differentiated pricing model. The V2P frameworks Service Design
Value allows IT services to adapt to evolving business needs through dynamic
configurations based on anticipated changes in workload.

In this pricing model, cost to customer moves from fixed to variable bucket, driven
solely by the change in business priorities and what each service is designed to achieve.
A comprehensive Portfolio Maturity Assessment Model, part of Syntel AMO 2.0
offerings establishes a roadmap for the engagement in terms of a Point-of-Arrival
Service Platform.

How We Help Our Clients
Syntel helps its clients across the globe to choose and implement an appropriate service
based pricing model that delivers optimal value and cost savings. It identifies
parameters influencing delivery and how these parameters can vary based on services
required. Hence, customer sees the benefit of this pricing model and is encouraged to
shift towards variable costing for improved benefits.

Well-crafted risk-reward models that hinge on adherence to defined goals reduce risk
for customer while signing up for penalties in case of non performance. V2P creates a
win-win situation for both the client (charged for the real value of the services
delivered) and the service provider (pricing according to the type of services provided).



Further Reading

For additional details, please refer to the following resources:
PricewaterhouseCoopers Software Pricing Trends How Vendors can capitalize on
the Shift to New Revenue Models article
PricewaterhouseCoopers and Indo American Chambers of Commerce, Evolution of
BPO in India article
http://www.inc.com/guides/price-your-services.html
http://www.itbusinessedge.com/slideshows/show.aspx?c=79766&slide=8
http://itonews.eu/it-outsourcing-will-grow-to-313-billion/
http://www.everestgrp.com/2011-11-everest-group-q3-report-global-outsourcing-
transaction-volume-declines-substantially-for-first-time-in-four-quarters-press-
release-8395.html
http://articles.economictimes.indiatimes.com/2011-11-
21/news/30424667_1_software-spending-research-peter-sondergaard-gartner
http://www.igate.com/ceoblog/managing-risks-in-an-outsourcing-contract/
http://www.itbusinessedge.com/cm/blogs/all/12-outsourcing-trends-out-with-
labor-arbitrage-in-with-added-value/?cs=40866
http://www.businessweek.com/magazine/content/06_05/b3969401.htm
TCS Whitepaper - Transaction Based Pricing in BPO: In Tune with Changing Times
(http://www.tcs.com/SiteCollectionDocuments/White%20Papers/Platform_BPO_W
hite_Paper_Transaction_Based_Pricing_in_BPO_05_2010_1.1.pdf)
iGATE whitepaper - Transaction-based Pricing Model for Outsourcing: Why and
When (http://www.inceptum.com.au/pdfs/TMO-Based-on-a-Survey.pdf)
http://emerge.nasscom.in/2010/06/outcome-based-pricing-model-the-litmus-test-
of-collaboration/