Outcome-based Pricing: A Growing BPO Trend | Article

Trend arrowOutsourcing the back office has been around for decades. But today there is a new way service providers are actually charging for these BPO services. It’s called outcome-based pricing.

“Outcome-based pricing is a growing trend,” observes Dennis Winkler, head of the BPO practice for Alsbridge. He predicts in the near future most mortgage loan originations and insurance policies back office administration will be priced per policy or loan, not per full-time employee (FTE).

Winkler says many of the deals he is working on today have FTE pricing because the outsourcing buyers do not have a clear handle on their true cost of services internally. Many insurance companies, he notes, grew by acquisition and end up using different systems, platforms and processes which make it near impossible to have a company-wide understanding of per policy costs.

Outsourcing, however, standardizes processes. The service provider can then provide a clearer cost picture. Winkler says today’s new contracts often include a conversion clause to allow the buyer to move from FTE-based to outcome-based pricing at a later date. “This allows the client time enough time to determine their internal cost per policy and then they can compare costs to see if outcome-based pricing is indeed a good deal,” he says.

What is outcome-based pricing?

Outcome-based pricing is an operational model where the service provider charges the buyer based on specific business outcomes and not on labor. The provider does not get paid for the effort it puts in. Instead, the service provider gets paid when it meets a specific business outcome, and, in the case of loan origination, after the client gets paid.

“We charge on a per-funded-loan basis not per full time employee,” Phaneesh Murthy, iGATE CEO, explains.

Winkler says the service providers experienced in both BPO and ITO are the most likely to offer outcome-based pricing. He says process automation and internal technology platforms allow the service providers to bear the additional risk of outcome-based pricing and still remain profitable. “They know they can be more efficient because the mortgagor or potential policy holder will only have to call once to get a question answered, not three times because of the quality of their systems and processes,” he explains.

What are the advantages?

Outcome-based pricing helps with customer satisfaction, according to Murthy. “Executives are constantly looking for applications and offerings to increase revenue or customer stickiness,” he says.

Murthy says outcomes-based pricing helps outsourcing relationships because it “aligns the creative juices of both parties. We are not inversely aligned.”

For example, a service provider may provide mortgage servicing support for a bank. The provider would receive payment based on how many mortgage loans actually closed. The iGATE CEO says outcome-based pricing often “takes away the pain caused by volume fluctuations.” The model works well for buyers who have difficulty predicting volumes because their business has a high degree of volatility. “They have zero planning headaches; they don’t have to worry about bodies,” he continues.

Murthy says outcome-based pricing works best for operational type work not IT tasks. The CEO adds outcome-based pricing works best when the service provider controls the process end-to-end such as:

  • The mortgage application process
  • The insurance policy administration process
  • Reference data
  • Procure-to-pay

In a sign of industry maturity, the iGATE CEO says most buyers who want this operating model understand it probably will cost more, not less than doing it in-house. He says they are much more interested in building their brand and increasing compliance. “These companies want a better customer experience. This is a big swing from an emphasis on efficiency,” Murthy says.

Another big benefit according to Winkler is that it turns a variable labor cost into a fixed fee. In the insurance industry, having a fixed fee for policy administration costs allows the actuaries to do more precise modeling and increase policy profitability.

Some tasks have to remain onshore for compliance and regulation reasons. Murthy says originally the provider performed up to 75 percent of the work for insurance companies, financial services companies and healthcare buyers in India. Today the percentage rarely tops 70 percent for these reasons.

How the process works

iGATE worked with a loan processor that was completing the loan packages using FTEs in low-cost US cities. They had gotten the process down to $2,500 per loan, which they passed along to the borrower as fees.

After outsourcing to iGATE, the cost per loan fell to $1,000 because the provider implemented an imaging solution. “We got a 20 percent efficiency gain from technology. It was not about labor arbitrage,” he explains.

The provider then built a customer work flow and automated the consumer underwriting with rules-based processing. This lowered the cost per loan to under $1,000, allowing iGATE some margin.

Lower costs allowed the mortgagee to gain a competitive advantage in its marketplace because for all intents and purposes a mortgage loan is a mortgage loan. The lower cost made a difference.

The big aha moment

Murthy said the big aha moment came when the buyer’s analyst team and the iGATE analyst team disagreed about why the lender’s successful loan approval rate was under 45 percent. The buyer’s team insisted the rate was low because of the product design. The iGATE team felt it was about customer satisfaction; the turnaround time was too long for people eager to get into a house.

iGATE’s new processes reduced the turnaround time to 17 days from the lender’s typical 42 days. Guess what? The loan approval rate jumped to 62 percent, reports Murthy.

“We invested in the technology,” says Murthy. “But both partners are benefitting. That’s the beauty of this model.”

Buyers, are you considering outcome-based pricing models? Why? If so, for what processes?

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