Outsourcing Pricing Models

Selecting the appropriate pricing structure is a capital allocation and risk management decision. It influences incentives, delivery dynamics, governance overhead, and long term flexibility.

1. Fixed Price

Definition

A clearly defined scope is delivered for a pre agreed total cost within a set timeline.

Best suited for - Stable and well documented requirements

• Low technical uncertainty
• Compliance driven or tightly scoped initiatives

Advantages - Budget certainty

• Lower financial exposure
• Simplified procurement

Risks - Expensive change requests

• Incentive to optimise for cost rather than value
• Heavy upfront specification effort

Strategic consideration

Effective for contained projects. Poor fit for evolving products or discovery led development.

2. Time and Materials

Definition

Billing is based on actual hours worked multiplied by agreed rates.

Best suited for - Agile delivery environments

• Evolving product roadmaps
• Innovation initiatives
• Long term platform development

Advantages - High flexibility

• Continuous reprioritisation
• Better alignment with iterative delivery

Risks - Budget variability

• Requires strong governance
• Efficiency depends on oversight quality

Strategic consideration

Optimises for adaptability and speed over cost certainty.

3. Dedicated Team Model

Definition

A fully allocated team works exclusively on your initiatives for a recurring monthly fee.

Best suited for - Long term product development

• Platform ownership
• Capacity extension of internal engineering

Advantages - Predictable recurring cost

• Strong knowledge retention
• Deep integration with internal processes

Risks - Long term commitment

• Underutilisation risk
• Requires strong internal product leadership

Strategic consideration

Functions as an external extension of engineering capacity.

4. Milestone Based Pricing

Definition

Payments are tied to predefined deliverables or phases.

Best suited for - Multi phase programmes

• Structured builds
• Transformational initiatives with checkpoints

Advantages - Balanced risk sharing

• Clear performance incentives
• Cash flow aligned with progress

Risks - Ambiguity in milestone definitions

• Potential disputes over acceptance criteria
• Change management overhead

Strategic consideration A hybrid between fixed price and time and materials, useful when delivery confidence increases over time.

5. Outcome or Value Based Pricing

Definition

Compensation is linked to measurable business outcomes rather than effort.

Examples - Revenue share

• Cost savings percentage
• Performance bonuses

Best suited for - Data rich environments

• Mature vendor partnerships
• Clearly measurable KPIs

Advantages - Strong incentive alignment

• Shared risk
• Focus on business impact

Risks - Complex contract structuring

• Attribution disputes
• High transparency requirements

Strategic consideration

High leverage model when outcomes are clearly measurable and materially influenced by the vendor.

Choosing the Right Model

Key decision variables include:

• Requirement clarity
• Risk tolerance
• Governance capability
• Strategic importance
• Time to market pressure
• Internal engineering capacity

Hybrid approaches are common. For example:

• Discovery under time and materials
• Build under milestone based pricing
• Long term scaling under dedicated team

The optimal choice is less about minimising cost and more about aligning incentives, allocating risk appropriately, and preserving strategic flexibility.