Structuring Payments for Outsourcing Services

by Pillsbury Global Sourcing Practice

When customers decide to outsource part of their operations there are many factors to be considered and decisions to be made over the course of the initiative. Getting to the "right price" is obviously one of the key objectives in any outsourcing transaction. Nobody wants to pay too much for a particular service and, while it might seem nice at first blush, nobody really wants to pay substantially below market price for a service because of the problems that will ensue later in the relationship. However, once the right price has been determined, then a decision must be made as to how to structure the payment of this right price.

The Dead-Band Method: For some customers, especially those with little variance in their monthly usage, having a consistent invoice amount from month to month may be more important than perhaps squeezing that last dollar of cost savings out of the operations. For such customers, paying the same amount for volumes that are within some small percentage (up or down) of the original baseline volumes can be a preferred way to structure the payment.

With the Dead-Band Method, the amount the customer pays each month doesn't change within a small percentage of volume changes (e.g., +/- 5%). In addition to the stability in amount paid, this method can also reduce the angst created by conflicts with the supplier over the accuracy of volume counts. Counting issues often arise in the early days of outsourcing relationships as volumes that have been loosely measured in the past suddenly take on far greater importance. If the invoice price doesn't change until the dead-band is passed, then small changes in volumes can be validated and worked through without the pressure of an aging supplier invoice. Ideally, by the time the dead-band limit is reached, the counting issues have been worked out.

Within the Dead-Band Method, there are different ways to address changes in volumes. For example, with a baseline volume of 100 and a 5% dead band, the same price is charged for volumes between and including 95 and 105. When 94 or 106 is reached, the adjustment could be a credit or charge for 1 unit (i.e., the 5 units in the dead-band are not counted), or the adjustment could be a credit or charge for 6 units. Both methods are valid and really a function of client preference and negotiation.

Multi-Band Method: Beyond a single dead-band, pricing "bands" can be developed. This is a good method for clients who don't want the variability and complexity of changing invoices once the single dead-band is breached. Under the Multi-Band Method, multiple pricing bands are predetermined and pricing is set for each band. This gives the customer the assurance of a somewhat predictable invoice month after month beyond the initial dead band.

One must exercise caution when constructing a Multi-Band Method pricing structure. If the bands are too wide, one of the parties could be at a disadvantage; which one will depend on whether the volumes are growing or shrinking. If the bands are too narrow, you will constantly be changing bands which might negate the value of choosing this method in the first place.

P*Q Method: A customer who does not have a strong desire for a stable monthly invoice, or a customer who might be in an environment of shrinking volumes may prefer the P*Q Method where actual volumes consumed each month are invoiced.

Under the Dead-Band Method, a customer who has shrinking volumes will have to wait until they are some percentage below the baselines before a reduction in their invoice will be made. Whereas in the PxQ Method, that same customer would receive savings from the reduced volumes each month as those volumes decrease. This can be particularly important if the customer, not the supplier, has more control over when and how far volumes will shrink. However, it's important to consider the risk and impact of increases in volumes since, under the PxQ method, the customer pays for incremental growth in volume as soon as it occurs.

* * * * * * * * * *

When considering what the right method is for your circumstances, it is important to recognize that not all services may lend themselves to the same approach. It is perfectly acceptable to employ more than one strategy across the many services you are outsourcing. In the case of billing methodologies, one size may not fit all.

For any method, it is critical that a clear definition of the metric being counted and the method of counting be determined, documented and agreed upon before the invoicing starts. You can have the perfect pricing and payment structure established, but if you're counting the wrong thing or there is disagreement on what is counted or how it's counted, you will waste a lot of time and potentially have a significant variance in your projected spend.

All of the approaches noted above are right for different customers and perhaps even for the same customer at different stages in their evolution or business cycles, or simply for different services within a single sourcing transaction. What is right for your organization will depend on many factors and should be discussed with your sourcing advisor during any outsourcing initiative you undertake.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Pillsbury Global Sourcing Practice | Attorney Advertising

Written by:

Pillsbury Global Sourcing Practice

Pillsbury Global Sourcing Practice on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Custom Email Digest
Privacy Policy (Updated: October 8, 2015):

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.


JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at:

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.