Fixed Cost Deals
A fantastic financial arrangement for keeping payment processing simple. But have you ever audited one?
One of our clients had a professional services contract in place with a clear billing instruction; dependant on the price band of the works instruction, a corresponding fixed fee was to be charged. The definition of the price band of the works instruction was pre-agreed and not subject to any interpretation. So in theory all invoices should have been very straightforward and all should have been to a pre-agreed amount.
They all were not.
How and why? The client had no idea it was even happening, it’s just that we’ve seen this countless times before and knew where to look.
The contract allowed for exceptions where certain work types were considered to be “outside” of the fixed fee arrangement. The rules of engagement were that in these circumstances the supplier was able to contact the client and agree that a separate hourly rate could be applied instead.
Because the supplier felt that the fixed fee arrangement was “unfair” where more work was required. In essence they thought of the fixed fee as a baseline price not as an average across different types of jobs.
But it is not just suppliers who are guilty of breaking the spirit of these fixed cost deals – buyers can be just as bad.
In another scenario we have dealt with a deal was constructed between two parties for the purchase of electrical goods. Previous years order data was reviewed and an average price per order/item was established. With allowances for inflation, a fixed price deal was agreed to make financial management simpler.
Whilst this worked perfectly well when the buying team were ordering items at, or above the fixed agreed price, orders for lower than agreed price items soon dried up as the team buying felt that order represented poor value. Instead they bought elsewhere as although the deal had been agreed on a global basis, the team were acting on an order by order basis.
So what is the solution – no fixed price deals?
Fixed price deals can and do work. The issue, like most creative deals are that human nature comes to play which breaks the theory behind a deal.
Ensure that prices are not visible to buyers in these scenarios so that they do not second guess the value of a purchase. Conversely, where the supplier is constantly attempting to access rates outside of the fixed structure, introduce harder referral paths so that every request is subject to scrutiny and is measured. In the scenario we discovered the amount of “off rate” requests were captured and fed back as part of performance reviews.