Outcome-based Pricing in Services
Professional services companies traditionally engage in either effort-based projects (time-based / T&M pricing) or fixed scope-based projects (fixed price / fixed fee). We have previously shared views on engagement models and pricing in technology services: https://alten.capital/blog/tech-services-engagement-types-pricing. Are advances in AI pushing service providers toward outcome-based pricing?
Outcome-based pricing is when the customer’s cost for the service depends on the derived business outcomes. Conceptually, pricing/revenue for the service provider could range from negative to positive values. There could be initial investments the service provider needs to make for the project that may not be recouped, therefore taking the overall value to negative territory. On the other end of the spectrum, upside payments and bonuses can take the provider’s revenue to high revenue/gross margin levels.
Outcome-based pricing could be implemented in any creative way the service provider and the customer agree on. The goal is to engage in a relationship that is aligned toward reaching and exceeding the customer’s business goals, with the service provider capturing additional value. Simple examples can be:
- A bonus for reaching desired business metrics within a specified period of time (e.g., a fixed dollar amount when the customer adds a certain quantity of users within the next three quarters due to the new feature the provider is building)
- An increase in rates if a series of goals are achieved within a specified timeframe, or a decrease in rates if those goals are not materialized during that time window
- A penalty/clawback if the project extends beyond certain dates that are crucial for the customer
- Fixed fee pricing per occurrence or transaction, rather than T&M or for features (more akin to a transactional software product or service)
As service providers adopt AI internally (impacting their productivity, billing rates, and cost structures) and customers implement new AI features across their organizations, impacting the software they use, internal processes, and their team’s productivity as well, opportunities for innovative pricing models will continue to pop up.
Alten Capital invests in technology services businesses. Please reach out to explore potential partnerships.