I am rolling out a new specialized outsourced groupware service and am
looking for ideas for an alternative pricing model.
 
We have a unique target customer (risky startups), and they don’t have
the initial funds to afford the standard cost of our proposed service.
 Here is what I mean.
 
 
 
HERE IS THE SCENARIO: 
----------------------------------- 
- The target client for this service is a risky startup that won’t
have revenues for 6 months.  If they pass the 6 month mark, it is
assumed that they will have plenty of revenues.  If not, it is assumed
they will be history.
 
- A 50% discount will be given on the front end (the first 6 months of
service will be discounted), and in return there needs to be some kind
of a payoff after the 6 month mark.
 
- Since the discount is given, and the company purchasing is risky
startup (i.e. the payoff for the discount may never come because the
company is toast before the 6 months), the payoff amount should be a
risk premium, meaning that it should be more then just a repayment of
the discounted amount.
 
- Equity (shared, options, or warrants) are not an option  The reward
must come in money.  Even if it is in the form of a price increase for
the same service.
 
- The service being given needs to be the same after the 6 months as
it has always been.
 
- For example, the service would normally cost $10,000 to setup, and
then $4,000 a month for hosting a 10 account version (10 employees).  
The discount given would be 50% off the setup, and 50% off the first 6
months.
 
- The goal of the service is to make the company run more efficiently
(and able to utilize temporary outside contractors/consultant/vendors
with the same level of collaboration as a in-house permanent
employees), so that more hiring a significant number of new employees
does not become necessary after startup takes off (after the first 6
months).
 
- The service is setup in a way that it cannot be metered, it is an
unlimited service.
 
 
 
HERE IS WHAT I AM LOOKING FOR: 
----------------------------------- 
I am looking for 2 specific things in this answer:  
 
1 - Examples of unique and innovative pricing models that other
service companies have used.  Preferably something that might apply to
what we are doing, or might spark an idea that evolves into what we
are doing.  I am looking for models that have the characterizes (and
fit the following scenario) as noted above:
 
 
 
2 - Suggestions from Google Answers fans for an innovative pricing
model for our new service.  (in the form of Comments to this
question).  Any contributions are very much appreciated.
 
 
Thanks in advance!

---

Request for Question Clarification by taxmama-ga on 15 Sep 2002 09:38 PDT

Hi Sherpaj,

Sounds like an interesting project.

May I ask you two questions?

1) If the pricing model makes sense, will the company agree to
anything you propose? (i.e. you already have a good working
relationship with them. This is just about negotiating?)

2) Must you see an existing model? Or will you accept an idea that I
create from my vast years for business experience and my imagination?
(If it makes sense, of course.)

Best wishes,

Your TaxMama-ga

---

Clarification of Question by sherpaj-ga on 15 Sep 2002 13:01 PDT

1) If the pricing model makes sense, will the company agree to
anything you propose? (i.e. you already have a good working
relationship with them. This is just about negotiating?)

ANSWER:
Yes we do have a good working relationship with then.  This is just
about making it cheaper (via a discount at the start) for them to use
our service when they are starting up and don't have revenues, and
recouping the part of our income that we lost due to the discount (but
with something extra since we shared in their risk).

 
2) Must you see an existing model? Or will you accept an idea that I
create from my vast years for business experience and my imagination?
(If it makes sense, of course.)

ANSWER:
I was hoping to get a number of models to get ideas from.  I was
hoping that (via research) perhaps some business articles examining
various types of pricing models might turn up.  Maybe something other
then business article, maybe some commentary on how different internet
companies are (or were) experimented with unusual pricing systems..  
If you wouldn't mind posting your idea as a comment, it would be
greatly appreciated.

Dear Sherpaj,

I decided to go ahead and do some research for you. Which gave me some
additional perspective on your situation.

The best way to establish any kind of share-risk pricing arrangement
is to have a way to quantify the value of the product or services
being provided.

You have two initial stumbling blocks in that regard:

1) The service is setup in a way that “it cannot be metered, it is an
unlimited service.” So, you can’t tie long-term compensation to any
specific action generated within your system.

2) “The target client for this service is a risky startup” – so, they
don’t have any existing sales or performance to measure. Everything is
new. You can’t negotiate a share of the increased profits or sales.

These two things make your situation particularly unique. 

You have a strong bargaining point, though: 

You are providing some core services for this business. They would not
be able to effectively operate without your tools.


Looking through shared risk models discussed online, the following
structures are repeated in many articles or scenarios. The general
concepts apply to you. Although, I think one of the best models really
comes from the film industry.

Coincidentally, in today’s September 15, 2002 issue of Parade
Magazine, Walter Scott’s Personality Parade column talks about Mike
Myers’ compensation for Goldmember. Despite playing several key
characters, co-writing the script and coming up with the concept, he
only got a flat fee for his work -  $25 million. However, to make up
for the flat fee, he also gets 21% of the film’s gross.
(I couldn’t find this online. But I have a copy of the printed article
from this Sunday’s newspaper.)

Seeing what else experts have used, here’s the Google search I did:  
'pricing models' 'shared risk' -"risk management" -health -actuarial
-arbitrage -"ad pricing"


Outsourcing CRM is Worth a Look
By James Adams
http://www.realmarket.com/experts/experts041502.html
·	Cost-based charges or client risk models - where the outsourcer
charges based on the number of agents or calls received;
·	Revenue-based charges or shared risk models - such as per sale (in a
sales environment) or per customer (in a customer services
environment) charges.


Pricing Structure 
by Michael F. Corbett & Associates Ltd
http://www.firmbuilder.com/articles/5/32/541/

See example 4:
4. Shared risks and rewards pricing A shared risk/reward pricing
structure is a major step toward linking compensation to end-user or
back-end performance. Variability is greater and the connection to
end-user goals is stronger with risk/reward pricing. Quite often
contracts involve incentives such as gainsharing, value engineering,
savings-based pricing, and revenue-based pricing. For example when IBM
and Mercedes-Benz formed a deal at the car manufacturer's Alabama
plant, not only were the incentives tied to IT related activities, but
they were also linked to meeting the plants production quota. This
reward structure makes IBM part of the Mercedes team. For
organizations that are first in the industry or early adopters, there
is a tremendous opportunity to strike these kinds of pricing deals,
because providers recognize that their customer's success could likely
expand their business.

Winds of Change
By Mark Leon
http://www.infoworld.com/articles/hn/xml/00/11/06/001106hnconsult.xml

"When we build a b-to-b [business-to-business] exchange for a client
we need to add some additional value," says Chuck Burns, global senior
vice president for the services industry at KPMG, in Radnor, Pa. "It
is not enough just to bring buyers and sellers together. This means we
are prepared to participate as a business partner and could bill on a
transaction or subscription model. Maybe the term for this kind of
pricing hasn't been invented yet, but it will not be time and
materials, fixed price, or equity sharing."


Retailer Pays Web Hosting Firm With a Slice of Sales
By Julekha Dash
http://www.frymulti.com/noflash/press/archive/a_coach.asp

Coach, a division of Sara Lee Corp. of New York, said it will pay Fry
for its Web development and hosting service with a portion of sales
generated from the Coach site.



As I see it, you have three choices with respect to compensation that
takes into account your shared risk in the project. You have
opportunity costs for the money you expend to support this company.
And if they fail, you have a huge risk of loss.

1)	Higher compensation and bonuses spread over a longer period of
time, at a set rate, regardless of the company’s success or
performance.

2)	A percentage of revenues for each of a specified set of time frames
(quarters, years), or targets. This is the only one that requires
quantifying the company’s success.

3)	And/or a solid, long-term contract, with something like a golden
parachute clause. i.e. You’ve taken the risks, so, when they become
successful, they don’t replace you with someone else for at least 5
years.

Greed aside, if you make sacrifices and, essentially, help fund their
company for the first six months, you really ought to be rewarded with
share in their rewards. You are, essentially, a partner. However, you
don’t want stock, since that doesn’t help you recoup your
out-of-pocket costs for several years.

It sounds like you will be 

The first option (1) would give you a predictable cash flow, as long
as the company survives.
Here is one way to implement it:

a) You would set it up by giving them the 50% discount you mentioned,
for the first six months.
For the next six months, they pay you full price PLUS an increase. The
increase would depend on the company’s cash flow. If they can repay
your full 50% shortfall immediately, then set the increase at a 100%
increase for the next six months. That has you repaid in full, except
for interest.  As a reward/interest, have them pay you the increased
fees for, say, another 6 months.
That would be a hefty bonus. 

b) Get 50% for the first six months. Subsequently, bring the monthly
fee to full price, plus, say, 12.5% - 25% additional fee for the next
5 years. Make it enough of an increase that you not only get your 50%
reduction back, but an increased stream of income for the first 5
years of the contract.

Frankly, while this is easy for the accounting department to work
with, once you’ve established the numerical parameters, you
shortchange yourself.

Option (2)  let’s you do what producers and star actors do in films.
Take the lower compensation up front, but share in the profits of the
entire project.  Accept your 50% reduction, which is a considerable
investment and gamble. Then, (rather than stock) arrange to get a
percentage of their gross revenues for as long as you are working with
them plus, at least two years.
The reason I say gross revenues, is that those are very easy to verify
without audit. (Just look at copy of sales tax returns, or income tax
returns and use line 1.) Depending on the company’s sales, they could
give you as little as 1%-5% of gross revenues to make the contract
really lucrative to you. And numbers that low are not threatening to
them and barely affects their bottom line. After all 5% of a million
dollars is a $50,000 bonus.

A version of Option (3) is something you should really add to any
arrangement you make with the company. It needn’t only be an
alternative. If you are going to take this risk and provide some very
expensive support with the possibility that you might never get
reimbursed, you should receive some assurance that once everything
runs smoothly, they don’t boot you out for someone less costly.

If you'd like me to give you more detail about any of these options,
please let me know with ones you want to pursue. I'll be happy to give
you some guidance in structuring your arrangement.

Best wishes

Your TaxMama-ga

I need more time to read through your answer and research, but they
look very intriguing.

"The goal of the service is to make the company run more efficiently 
(and able to utilize temporary outside contractors/consultant/vendors
with the same level of collaboration as a in-house permanent 
employees),"

Be careful about using independent contractors as a way to not have to
pay for employee benefits, etc. A company can not treat contractors
the same way it can employees i.e. you will not have as much control
over how the work is done, where it is done, or even who is doing it;
you can not penalize a contractor; you can not use a contractor as a
means to circumvent paying minimum wage; you can not train a
contractor, and most importantly, you must make sure there is a time
limit on that contractor's participation in the contract. Otherwise
you risk an ongoing relationship which can be seen as an empployee
relationship, not to mention the fact that if the contractor is
providing an integral part of the business, they also can be seen as
employees by the IRS. Just be careful -- many start ups can not afford
employees, but they can end up in legal hot water for thinking they
can treat a consultant the same way.
If you recommend to a company that they take on consultants or vendors
"with the same level of collaboration as a in-house permanent
employees", you may be overstepping the terms of what the IRS
considers a contractor.

You are right.  We don't get involved in how the companies do their
business, but the advice is appreciated.