According to Deloitte and GitHub, one of the top reasons businesses opt for IT outsourcing is to cut costs. The key task of all offshore software development teams is to create better software at lower prices. This reasoning becomes even more reasonable when we consider current fluctuations in the global economy and the worldwide anticipation of how AI will unexpectedly change how we buy, consume, and provide IT services.
Content:
- Facing the challenges of 2024
- Main IT outsourcing models compared
- Flexible pricing models
- Hybrid models of IT outsourcing
- Choosing a model that works for your business
IT service market recognizes the need and answers with new, more flexible, and more adorable pricing models for those searching for tech team outsourcing. We’ve gathered all of them in one place so you can choose which kind of outsourcing cooperation fits your business the most.
Facing the challenges of 2024
In 2024, the World Bank reports that the global economy is facing a notable downturn, with the slowest half-decade GDP growth in 30 years. The global growth rate is expected to fall to 2.4%. This downturn is driven by ongoing wars (and the high possibility of their escalation), stagnating global trade, and stringent financial conditions. Developing economies are projected to see only a 3.9% growth, significantly below their last decade’s average. Advanced economies aren’t faring much better, with growth estimates dropping to 1.2% in 2024, down from 1.5% in 2023. This points towards a challenging economic phase, particularly for developing nations.
Financial stagnation and geopolitical tensions make businesses act in different ways to reinforce their stability and make it through the year. What exactly do they do?
1. Staff and processes optimization
Amazon, Google, YouTube… they’re doing it again. Major tech giants continue optimizing their staff. Some of them increasingly rely on AI and automation, like Duolingo, which cut about 10% of their staff by the end of 2023. This trend is not just about reducing headcount; it’s about reshaping the workforce to align with emerging technologies. For instance, roles that involve repetitive or routine tasks are more likely to be automated. As AI systems and tools become more sophisticated, they are able to take on complex tasks, leading to the displacement of more jobs.
According to a recent conference in Davos, 40 to 60% of workplaces will be affected by AI in the near future, and tech jobs are certainly among them. What we have to remember is that the trend is not only about cutting costs but also about staying competitive in an increasingly technology-driven market.
2. Selective R&D investments
Tech companies are in a challenging position regarding R&D investments. The high cost and risk involved in developing new technologies make them cautious. Despite this, there’s a pressing need to keep up with industry leaders like Microsoft, especially in their AI ventures like OpenAI. This competitive pressure is significant because falling behind in key areas like AI could mean losing market share and relevance.
Financially, R&D investments represent a substantial part of tech companies’ budgets. For example, companies in Silicon Valley typically allocate 8% to 18% of their annual revenue to R&D, which is vital for maintaining technological leadership. However, the success rate of these investments is variable, and not all R&D projects yield profitable returns, adding to the hesitation.
In AI, for instance, the development costs are high, not just in the technology but also in acquiring skilled personnel, which are in short supply. This scarcity drives up wages and adds to the overall investment cost.
3. Services diversification
Services diversification is a strategic approach that tech companies are increasingly adopting. By introducing new products and services for different markets, they aim to mitigate risks associated with the failure of a single product. This strategy is particularly relevant in the tech industry, where rapid innovation cycles can quickly render products obsolete.
For example, a tech company specializing in a single software product might diversify into cloud services or cybersecurity solutions. This will spread risk and allow the company to tap into growing market segments. According to a Gartner report, the global public cloud service market is expected to grow about 20%, highlighting the potential for revenue generation in this area.
Moreover, diversifying services allows tech companies to leverage cross-selling opportunities. A customer using one service might be more inclined to adopt another service from the same company, thus increasing customer lifetime value. Statistics show that companies with diversified portfolios often enjoy more stable revenue streams and can better weather market volatility.
4. Direct labor costs limitation
To cut costs, tech companies adopt offshoring. This approach involves relocating certain business operations to countries where labor costs are significantly lower. By doing so, these companies can significantly reduce their operational expenses.
For example, a developer’s salary in the USA is going to be five to ten times higher than that of a developer with similar skills in countries like Ukraine or Poland. This wage disparity makes offshoring an attractive option for tech companies looking to manage their budgets more effectively.
Main IT outsourcing models compared
Traditionally, among the key outsourcing models are staff augmentation, project-based outsourcing, and time-and-material model. Let’s compare them.
| Factor | Project-based outsourcing | Staff augmentation | Time-and-material model |
|---|---|---|---|
| Flexibility | Less flexible; scope and timelines are predefined. | Highly flexible; adapts to client's changing needs. | Flexible; adapts to the project's evolving requirements. |
| Price | Fixed price based on project scope. | Based on hourly or daily rates of staff. | Based on the actual time and resources used. |
| Control | The client has limited control; managed by the vendor. | High control; staff integrates into the client's team. | Moderate control; depends on the project management. |
| Expertise | Vendor's responsibility to provide expertise. | Client can select specific expertise required. | Blends client's and vendor's expertise. |
| Scope of work | Well-defined, limited scope. | As per client's ongoing needs. | Varies with project requirements. |
| Risk management | Vendor assumes most risks. | Client bears most risks. | Shared risk between client and vendor. |
| Ideal use case | Specific projects with clear objectives. | Need for specialized skills or additional manpower. | Projects with uncertain scope or duration. |
| Scaling | Not easily scalable. | Scalable as per client's needs. | Scalable based on project phase. |
| Outcome responsibility | Entirely on vendor. | Shared between client and staff. | Joint responsibility based on agreed metrics. |
The choice among these models will depend on the specific needs of the project. Deloitte and Gartner report, for example, states that companies often prefer staff augmentation for short-term needs or specialized skills. At the same time, project-based outsourcing is favored for complex, time-bound projects. The time-and-material model is typically chosen for projects where scope and duration cannot accurately be estimated upfront.
Flexible pricing models
The newest pricing models and flexible contractual arrangements in IT outsourcing have evolved to offer greater flexibility and alignment with various project needs and client requirements. They usually offer (1) more scalability, (2) variable pricing (pricing models that can adjust based on usage, outcomes, or changes in project scope), (3) performance-based terms (clauses that tie some portion of the payment or contract conditions to the achievement of specific performance metrics), (4) duration flexibility, (5) collaborative approach (regular reviews and adjustments to the contract), etc.
These are some of the existing models.
- Open book cost model. Clients pay for the actual expenses incurred plus an additional fee or incentive. It’s transparent, allowing clients to see detailed cost structures.
- Incentive-based pricing model. Bonus payments are offered to outsourcing partners for meeting certain goals, encouraging them to exceed expectations.
- Performance-based pricing model. Rewards are given for satisfactory results or for reaching certain metrics, encouraging high performance.
- Outcome-based pricing model. The payment for services is tied to the achievement of specific, predefined results or outcomes. The focus is on the value or success delivered by the service provider rather than just the efforts or time spent. It aligns the interests of the service provider and client towards a common goal and is suitable for projects where clear, measurable outcomes can be defined and agreed upon.
- Profit-sharing pricing model. Focuses on the outcome of work, with service providers rewarded for increasing the overall value of the client company.
- Shared risk-reward pricing model. Both the service provider and the client fund the development of new solutions or services, sharing the profits and risks.
- Pay-per-unit pricing model. Clients pay based on the amount of service used over time, ideal for businesses with variable demand.
- Cost-plus model with price adjustment. A variation of the fixed price model where pricing can be adjusted based on industry indicators like Forex fluctuations and labor costs.
- Managed IT services. An external provider manages all or part of your IT operations. It offers expertise and efficiency, though it may involve relinquishing some control.
- Fixed price. A set price is agreed upon for the entire project. This is ideal for projects with well-defined scopes and timelines.
- Retainer model. The client pays a regular, fixed amount for ongoing services. This provides predictable costs and continuous support.
- Subscription-based model. Involve clients paying a regular, recurring fee to access IT services or products. It’s often used for services like cloud computing, SaaS, and ongoing IT support or maintenance. Clients benefit from regular updates and support without needing to invest in owning the technology outright.
- Hybrid model. Combines elements of different models to suit specific project needs.
Hybrid models of IT outsourcing
The IT outsourcing industry is highly personalizable. You can always get what you want if you know how to name it. You can even combine elements from various traditional pricing models to create a customized approach. For example, you can choose a combination of fixed pricing for certain project parts with time and material costs for other, less predictable aspects. Or, you can pay regular retainer fees for ongoing services, supplemented with bonuses or penalties based on performance metrics. Or, you can combine a subscription fee for access to services plus additional costs based on actual usage.
Choosing a model that works for your business
So, what model will work for you? Here are some examples of best-fitting business needs to outsourcing models.
Let’s assume a software development company needs additional developers for a short-term project. By choosing staff augmentation, they hire developers with specific skills on a temporary basis and integrate them into their existing team for a particular period. What if a company needs several developers for long-term cooperation? It can try assembling a dedicated team.
Imagine that a company wants to develop a new mobile app but lacks the in-house expertise. They can choose project-based outsourcing and delegate the entire project to a specialized app development vendor that manages the project from start to finish.
What if an IT vendor undertakes a client’s project where the requirements are not fully defined and might evolve? The client pays based on the time spent by its vendor’s staff and the materials used. They use the time and material outsourcing model.
Let’s assume there’s a car rental specialist who wants a personal website. A web design agency agrees to create such a website for a fixed price. The scope, timelines, and deliverables are clearly defined, and the car rental client pays a predetermined Fixed price regardless of the actual effort.
Now, imagine a small business outsourcing its entire IT infrastructure maintenance to an IT service provider. The provider manages all IT services, including network management, data backup, and cybersecurity. That would be managed IT services outsourcing.
And here’s a school that subscribes to a cloud-based CRM system. They pay a monthly subscription fee to use the software, which includes regular updates and customer support.
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There are so many options for outsourcing that you will definitely find the one that works best for you! If you feel lost in this abundance of information, contact us right away, and we will help you choose the best-fitting model for your particular case.