Outsourcing Price Wars: Five Ways A Great Price Can Lead To A Bad Deal
The global economic turndown is affecting business decision-making in every industry, and the outsourcing business is no exception. The typical outsourcing provider is becoming more aware of the effects of the downturn, particularly as the competitive marketplace becomes more heated with a larger number of providers chasing fewer market opportunities.
Provider survival responses to these pressures are many and varied. Niche providers will continue to emerge to serve specialty markets; conversely, the market will also see mergers that either provide greater scale of production or greater service synergy.
But how will trends like these affect the individual outsourcing deal? One interesting development is the emergence of deals that reflect the time-proven strategy of building market share instead of profitability in a market downturn. For those large outsourcing organizations with robust economies of scale and balance sheets that can withstand short to medium term revenue hits, an ultra-aggressive pricing strategy to capture market share will position them well when our economy recovers. Aggressive pricing behavior on the part of one competitor can set off further pricing reductions from other providers in the mix.
What are the signs of an aggressive pricing strategy? If you can confirm that there is little or no difference between your outsourcing requirements and your providers proposed services, then any pricing at or below the low end of the market price can be considered aggressive.
But is aggressive pricing really a good thing? Everyone likes great pricing, but overly aggressive pricing behavior almost never results in a good deal. If a pricing proposal sounds too good to be true, it almost always is.
How can a deal turn sour in the face of aggressive pricing? Many ways:
1. Bait and Switch: Make sure providers are supplying the services youre specifying. You may see a provider offer services or equipment that are shared with other customers rather than dedicated exclusively to your company. Although this may be an acceptable way to cut costs while maintaining the same level of services, you may have special security or performance requirements that make such a substitution unacceptable. You may also see a provider loosen performance specifications or specify less robust hardware, software or process solutions in order to cut costs; again, this may be acceptable, but you should carefully evaluate these changes to make sure that they dont result in unacceptable performance risks.
2. Excessive ARCing: Subtle changes in contract language specifying Additional Resource Costs (ARCs) over mutually agreed upon performance baselines can result in a constant stream of extra costs. Check your baselines carefully and make sure you have enough wiggle room above them to avoid instant charges every time you experience increased resource use. ARC rates may also be way above market price in deals that feature baseline prices that are below market. Future costs in this case may well exceed what appear to be great savings in the initial years of a contract.
3. Offshore/Onshore Mix: Providers may take their labor arbitrage play to extremes that dont match your companys requirements or strategic direction. At any given time in a deal, there is an optimal mix of onshore and offshore labor. In their bid to cut costs, providers may accelerate the transfer of key responsibilities or processes to their offshore resource pools before these personnel are truly prepared. Be sure youre comfortable both with the services provided offshore and the pace with which they are incorporated into your operations.
4. Staffing Decisions: When staffing your contract, providers may assign personnel who have been proven to deliver exceptional contract margins rather than exceptional customer service. Given that provider staff does, indeed, work primarily for the benefit of their companies, you should expect your outsourcing services manager to recommend and implement initiatives that reduce your costs and increase outsourcing productivity. Make sure your contract includes incentives that reflect these needs, requirements for reporting on outsourcing management performance and provisions for removing staff who you do not believe are performing to your expectations.
5. Billing Costs: Providers may begin to play games with billing methods that add to their revenue stream. Even a simple shift in accounts payable provisions may add thousands of dollars in finance charges to your monthly bill.
The normal complexity of outsourcing agreements is sufficient reason to seek the advice of outsourcing professionals who understand the nuances of provider positioning and deal shape. With the economic downturn, the complexity of the deal is compounded by tactics not normally seen in the marketplace. In this climate, a broad range of comprehensive outsourcing services are needed to give you an edge, including a superior sourcing methodology, deep contract expertise and detailed up to the minute benchmarking data.
To this point, benchmarking is perhaps the most helpful tool in teasing out areas where pricing is abnormally low. There are services that begin with leveraging a broad index of industry data and then utilizing standard adjustment values to ensure that benchmarking teams will interpret results correctly for any particular contract. While benchmarking will always include an element of interpretation, our proprietary computer models can be extremely helpful in highlighting where providers may be relying on an overly aggressive pricing strategy.
In these economic times, it is even more critical to understand whether a good price is really getting you a good deal - or just an expensive headache in the future.
Provider survival responses to these pressures are many and varied. Niche providers will continue to emerge to serve specialty markets; conversely, the market will also see mergers that either provide greater scale of production or greater service synergy.
But how will trends like these affect the individual outsourcing deal? One interesting development is the emergence of deals that reflect the time-proven strategy of building market share instead of profitability in a market downturn. For those large outsourcing organizations with robust economies of scale and balance sheets that can withstand short to medium term revenue hits, an ultra-aggressive pricing strategy to capture market share will position them well when our economy recovers. Aggressive pricing behavior on the part of one competitor can set off further pricing reductions from other providers in the mix.
What are the signs of an aggressive pricing strategy? If you can confirm that there is little or no difference between your outsourcing requirements and your providers proposed services, then any pricing at or below the low end of the market price can be considered aggressive.
But is aggressive pricing really a good thing? Everyone likes great pricing, but overly aggressive pricing behavior almost never results in a good deal. If a pricing proposal sounds too good to be true, it almost always is.
How can a deal turn sour in the face of aggressive pricing? Many ways:
1. Bait and Switch: Make sure providers are supplying the services youre specifying. You may see a provider offer services or equipment that are shared with other customers rather than dedicated exclusively to your company. Although this may be an acceptable way to cut costs while maintaining the same level of services, you may have special security or performance requirements that make such a substitution unacceptable. You may also see a provider loosen performance specifications or specify less robust hardware, software or process solutions in order to cut costs; again, this may be acceptable, but you should carefully evaluate these changes to make sure that they dont result in unacceptable performance risks.
2. Excessive ARCing: Subtle changes in contract language specifying Additional Resource Costs (ARCs) over mutually agreed upon performance baselines can result in a constant stream of extra costs. Check your baselines carefully and make sure you have enough wiggle room above them to avoid instant charges every time you experience increased resource use. ARC rates may also be way above market price in deals that feature baseline prices that are below market. Future costs in this case may well exceed what appear to be great savings in the initial years of a contract.
3. Offshore/Onshore Mix: Providers may take their labor arbitrage play to extremes that dont match your companys requirements or strategic direction. At any given time in a deal, there is an optimal mix of onshore and offshore labor. In their bid to cut costs, providers may accelerate the transfer of key responsibilities or processes to their offshore resource pools before these personnel are truly prepared. Be sure youre comfortable both with the services provided offshore and the pace with which they are incorporated into your operations.
4. Staffing Decisions: When staffing your contract, providers may assign personnel who have been proven to deliver exceptional contract margins rather than exceptional customer service. Given that provider staff does, indeed, work primarily for the benefit of their companies, you should expect your outsourcing services manager to recommend and implement initiatives that reduce your costs and increase outsourcing productivity. Make sure your contract includes incentives that reflect these needs, requirements for reporting on outsourcing management performance and provisions for removing staff who you do not believe are performing to your expectations.
5. Billing Costs: Providers may begin to play games with billing methods that add to their revenue stream. Even a simple shift in accounts payable provisions may add thousands of dollars in finance charges to your monthly bill.
The normal complexity of outsourcing agreements is sufficient reason to seek the advice of outsourcing professionals who understand the nuances of provider positioning and deal shape. With the economic downturn, the complexity of the deal is compounded by tactics not normally seen in the marketplace. In this climate, a broad range of comprehensive outsourcing services are needed to give you an edge, including a superior sourcing methodology, deep contract expertise and detailed up to the minute benchmarking data.
To this point, benchmarking is perhaps the most helpful tool in teasing out areas where pricing is abnormally low. There are services that begin with leveraging a broad index of industry data and then utilizing standard adjustment values to ensure that benchmarking teams will interpret results correctly for any particular contract. While benchmarking will always include an element of interpretation, our proprietary computer models can be extremely helpful in highlighting where providers may be relying on an overly aggressive pricing strategy.
In these economic times, it is even more critical to understand whether a good price is really getting you a good deal - or just an expensive headache in the future.