[OUTSOURCING 101] Time-and-Materials vs Fixed Price Models. Which one to choose?
Identifying the right types of contracts (time-and-materials vs fixed price) can be a difficult problem for companies when outsourcing software development because it should be compatible with the company’s operating procedures, contract requirements as well as the vendor’s general expenses.
In this article, we will discuss the advantages and disadvantages of each contract type to clarify their practical application for software schemes.
Then organizations can have a clear insight into what is most suitable for their outsourcing projects.
Let’s dive right in!
1. Time-and-materials Model.
- Definition of Time and Materials.
- The advantages and disadvantages of the Time-and-Materials.
2. Fixed-Price Model.
- Definition of Fixed Price.
- The advantages and disadvantages of the Fixed Price.
3. Key differences between Time-and-Materials vs Fixed-Price Models.
4. Which model should your projects go for?
Definition of Time and Materials
A time and material (T&M) contract assumes charging clients for actual work scope based on hourly labor rates. Customers are charged for the number of hours spent on a specific project, plus material costs. The main focus of the T&M model is its flexibility and ability to change requirements, replace features, and involve clients in order to get the exact product.
The advantages and disadvantages of the Time-and-Materials.
- Flexibility: Following project workflow, unit-price contracts allow businesses to change the volume of work, revise materials or designs, shift the focus, or change features.
- Dynamic work scope: There may be a general goal that should be achieved, but the outsourcing team can create various methods to obtain it. For startups and mid-sized businesses, it is often preferable to make decisions while developing a strategy and building custom software. This method is closely based on Agile Methodology.
- Better timing: By avoiding the fixed-price bidding process, vendors can save time and get started right away. Furthermore, blended rates allow you to see how much time the team devotes to each feature and commit, motivating it to work.
- Out-of-budget potential: The main disadvantage of a T&M contract is a lack of budgeting control. The total cost may exceed the budgeted amount.
- High involvement needed: You must be actively involved to ensure that the team delivers on time and within the approved scope. (This one can be both a benefit or drawback of Time-and-Materials contracts)
Definition of Fixed Price
A fixed-price agreement is a one-time payment contract in which a service provider is responsible for completing the project within the agreed-upon budget. It can be a good option when the requirements, specifications, and rates are highly predictable. To ensure appropriate final results, a client should have a clear vision of the product and share it with developers.
The advantages and disadvantages of the Fixed-Price.
- Predictability is a high priority of any entrepreneur. Company strategy typically necessitates the transfer of clear deadlines and figures to the budget. Exact figures can be obtained by planning expenses for 1-3 months in advance.
- Transparency: There will be no surprises to have this benefit because the fixed-price contract has already defined specified requirements, a fixed budget, and pre-arranged deadlines from the beginning. Interaction between project managers and outsourcing developers on a regular basis ensures scope compliance and protects margins.
- Straightforward management: Payments to service providers are typically based on a percentage of work completed. In addition, expectations are transparent and predictable, so such workflow in the fixed-price contract requires little involvement.
- Lack of flexibility: As a customer, vendors are responsible for any emergent changes that you initiated or that are outside the vendor’s scope of competence.
- Less accountability has both advantages and disadvantages, depending on the circumstances. Regular reports and interactions between the client and team are not part of such an approach. Because all of the management is done by outsourced team members, you don’t need to set aside time for deep project involvement. However, this does not imply that vendors will be unaware of the workflow.
4 Key Differences between Time-and-Materials and Fixed-Price Models
|Key differences between Time-and-Materials vs Fixed-Price models|
|Category||Time-and-Materials Model||Fixed-Price Model|
|Scope||The scope is adjusted throughout the process to meet the needs of your company.||A project’s scope must be defined from the start.|
|Payment||After completing an agreed-upon amount of work, vendors will complete payment. The agreed-upon hourly or daily rate is the base of payment.||Vendors complete payment for the entire project after the finished product is delivered.|
|Involvement in project||High level of involvement → More project control||Low level of involvement → Less project control|
|Project||Suitable for complex projects||A fixed-price contract is ideal for small and consistent projects.|
Which model should your projects go for?
Here are summary criteria to decide:
When choosing time-and-materials models
Time-and-Materials contract is a good fit for your company if the project is
- Long-term projects with changing requirements.
- The project scope is not yet fully defined.
- You want the flexibility to control the scope or the workload.
When choosing fixed-price models
In contrast, if your project has the following features, the fixed-price contract. Fixed-price is a good choice for your organization:
- Specific requirements and deadlines.
- Have budget limitations or a fixed budget.
- Small projects with a limited scope.
Outsourcing has evolved from a simple concept to a complex aggregation of various options in recent years. The pricing model is not only about the payment but also the operation process that business owners must get right and manage properly. A specific contract will not work well with all kinds of software development projects.
After reading the blog, it is critical for you as a vendor to weigh all of the benefits and drawbacks of each type to determine if they can work with your project.
Moreover, you can also contact icts.io to receive direct consultation.