Data Viewpoint

Delivering on contractual commitments is hygiene, but you get what you pay for

January 14, 2022

We analyzed the commercial models used in more than 1,800 finance and accounting (F&A) business process outsourcing (BPO) contracts, including nearly 300 recent contracts, signed in the last two years to understand client expectations from their service providers.

  • There is a greater appetite for clients to include a component of outcome pricing (pay for performance or gain sharing) to incentivize suppliers to deliver beyond contractual commitments. The most significant increase was in hybrid pricing structures, which leverage a combination of input-based, output-based, or outcome-based pricing to drive the right behavior across both parties. However, nearly 25% of the all-new contracts signed included some component of gain sharing or pay-for-performance as an incentive for the supplier to perform beyond contractual commitments.
  • Usage of co-innovation funds, where the client or supplier reinvests savings or profits into the relationship to fund new transformation initiatives, also increased.
  • FTE-based (full time equivalent-based) pricing is not going anywhere. New clients continue to prefer input pricing (typically FTE-based) in the absence of robust volume and process baselines. There has been an upward trend in switching to transaction-based pricing after a few years when operations have stabilized.
  • The conversation around wage inflation is complicated amidst the great resignation and intensely competitive BPO supplier landscape. Most engagements continue to build wage inflation into overall pricing, but we see more conversations around COLA (cost of living adjustment) clauses during contract negotiations.
The Bottom Line: You get what you pay for. To drive innovation beyond productivity improvements, HFS recommends that BPO pricing structures should have three core components:
  1. A base service fee that is typically input based (for example, FTE-based for brand new engagements and when the volume baselines are not clear) or output based (for example, transaction-based when the relationship is settled and transaction baselines are more predictable).
  2. A layer of incentive pricing to encourage going over-and-above contractual commitments. HFS recommends a pay-for-performance incentive model versus pure gain sharing. Gain-sharing arrangements can often lead to unintended consequences; apportioning credit for who did what is complicated in a true partnership. In a pay-for-performance model, the client pays incremental fees for overachieving the anticipated benefits.
  3. A co-innovation fund where the client or supplier reinvests the savings or profits back into the relationship to fund new transformation initiatives.

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