Dilemma of fixed v/s variable project cost

For 25 years, I have seen many customers asking for fixed-cost project bids. However, I have not seen a single ‘successful’ fixed-cost project. When I say ‘successful,’ I mean a project where both the customer and developer company are proud and happy about that project. I have not seen such a project. The main reason is that ‘the concept of fixed cost’ results in perverse incentives to both customer and developer; invariably, instead of a ‘win-win,’ the situation ends up ‘lose-lose’ with no possibility of recovery.

This is how a typical fixed-cost project evolves from start to end. (If your experience has a consistently different outcome, I certainly like to know about it)

The customer wants to get new software developed. He does not have an idea about what the total cost will be. Obviously, he wants to reduce/control his risk. He thinks a ‘fixed cost’ project will control his financial risk. He invites ‘fixed cost bids’ to his project. Outsourcing companies know that something other than fixed-cost projects is needed. However, they want to gain a foothold. And they bid for it.

The customer selects an outsourcing company, and then the real ‘horror show’ starts. There are a lot of meetings to freeze the scope and finalize the specs.

During the first few months of the ‘honeymoon’ period, everything is going nicely, and the customer is happy/outsourcing company is happy. After 3 to 6 months, the first alpha release goes into the customer’s hand. Once a customer starts using it, he realizes that ‘this not what he wanted.’ So, he asks for a ‘few small changes.’ Initially, the outsourcing company accepts these changes and makes another release. The customer has more minor changes, and the outsourcing company realizes that the project’s margins and profitability are now seriously impacted. Outsourcing companies started pointing out that they have developed ‘exactly as per spec,’ customers are saying, ‘This is not what we wanted.’ So the customer is changing his mind. Outsourcing companies have started arguing that ‘it is a change request.’ The customer argues that ‘it is not, and it is a basic expectation.’ In a short time, customer representatives and project managers spend more time and money negotiating a change request and how much it will be charged. A short 2-hour feature requires 20 hours of negotiations. Customers will be charged for these 20 hours (directly or indirectly) and 2 hours of implementation time.  

It is in the customer’s interest to avoid paying for change requests and to squeeze as much work out of the contract as possible. Obviously, that is not in the interest of an outsourcing company. The outsourcing company wants ‘as many chargeable change requests’ as possible. Hence, outsourcing companies may need to identify any initial specifications mistakes. Outsourcing companies will make more margin by forcing more paid change requests. Their interests are not aligned. They are ‘incentivized’ to ‘indirectly sabotage’ the project. Now, everyone is thinking about ‘costs’ rather than ‘value.’

The honeymoon is over, and now the customer representative and project manager have started thinking of each other as a ‘kind of enemy.’ Both think, ‘I am reasonable, and the other guy is not.’ Every review meeting is now a battle of wits and negotiations. The project team is fed up with constant bickering. They are not enjoying their work. They are now coming to the office to ‘complete the time sheet’ rather than to make customers happy and add value. Their productivity starts decreasing. Both the Customer and Project Manager notice this and start threatening the team. The productivity decreases even further. Now resignations and project change requests start happening, and productivity slides even further. Quality issues increase. Releases start bombing.

As a result, all stakeholders (customer representatives, project managers, development team) are now constantly stressed over price/schedule and effort negotiations.

It’s just a matter of time before your project joins a long list of failed (or nearly failed) projects.

If you have experienced this scenario, please leave a comment.

Why does this nightmarish scenario repeat in every company?

Problems start because of seriously wrong assumptions by everyone involved

  • Customers focus on controlling cost rather than how much value is realized compared to cost. When a customer gets an alpha release after 3 to 6 months, and if end users (at least a few end users) are not using this release, then the value realized is ZERO.
  • It is impossible to create a ‘frozen spec document.’ A few requirements will definitely change if a customer gets a first release after 3 to 6 months. Many requirements may change in some cases (especially for start-up products). If your requirements are constantly changing and you want the service provider to adapt, then “fixed cost” will not work. Outsourced Project companies cannot work in losses. They have to find some way to ‘recoup’ the losses. The fight on ‘change requests’ is now inevitable.
  • Change request price negotiations” mean spending more time and money on meetings than development. In terms of Lean Process thinking, It’s a ‘muda.’
  • .

Is there a better way?  

I believe there is. However, it requires both customer and outsourced project companies to change their way of thinking and project execution. It will reduce the financial risk for the customer (like fixed cost project) and, at the same time, improve the chances of success and eliminate the ‘change request price negotiations’

For a development team, it is much more fun, delightful, and prideful to surprise a customer by delivering a feature the next day in production. It will be a delight for a customer to work with such a team, where the development team is responding to end-user needs without waiting for an ‘approval of price negotiation of a change request.’

If you (customer) will like to be delighted and want to delight your users and want to work with a happy and productive team, then come and talk with us (D10X

Website: http://d10x.io

Email: contactme@d10x.io

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