telecom
Pros And Cons of Different Consulting Fee Models (It is all about the incentives)
It’s basic human nature: people are typically driven to do what rewards them the most. This could mean giving back to the community or contributing to the betterment of the human race.
For a business to achieve its goals, incenting employees and vendors correctly is critical. Employees’ and vendors’ goals of success must be in alignment with that of your business’s objectives. If aligned correctly, your employees and vendors will do what is best for themselves, and in doing so, your company will thrive.
The question is then, how to best align the goals of your vendors with that of your profitability goals? When engaging a consulting firm to help improve your company’s profitability, it is vital to understand what their own business drivers are.
There are many ways for consulting companies to bill their clients:
Fee Type |
Profitability Drivers and Key Incentives |
Alignment With Your Company’s Profit Goals |
Predictability | Guaranteed ROI and Increase In Profit |
Risk | Service Is A Profit Center |
| Fixed Fee | Minimize Internal Effort | Limited | High | No | Yes | No |
| Hourly | Maximize Billable Hours | Limited | Medium | No | Yes | No |
| Success Fee | Client Profitability | 100% | Low | Yes | No | Yes |
Although it can be difficult to forecast what you may pay a company with a success fee model, the trade off is better results. Paying your consultants success fees are the only way to truly align your company’s business objectives with those of your vendors. Since the time, investment and effort risk is primarily in the hands of the consultant, not many will charge in this manner. Even fewer companies will only charge clients after the benefit has been realized by their clients. Many charge based on an estimate of savings upfront.
Optelcon is one of the few consulting companies that charges a success fee after the benefit has been received. Optelcon takes the risks because we are confident in our ability to deliver added profits. Your company’s real benifits are:
- A vendor that is a profit center
- A cashflow positive fee structure (fees are charged only after clients receive benefit)
- Converts other vendors’ spend directly into increased profits
- For $3 dollars added to profits only $1 is charged
- Requires minimal internal effort
- Increases Productivity
- Improves Vendor Relationships
- Requires no systems to implement
If working with a company that provides these benefits is something that interests you, please contact us today for a complimentary review of your IT spend.
How to avoid revenue commitment traps and gain complete control at the negotiating table
A detailed Review of Interval, Attainment and Term Revenue Commitments
After negotiating hundreds of contracts, from dozens of carriers, for clients ranging from global 50 to $50M/year in revenue, I feel I have a unique perspective on this topic. In my experience, I have found that revenue commitments, are to a large extent, arbitrary. Although contrary to popular belief, I regularly find that companies who spend $1M/year will get better rates than companies who spends $10M/year with that same vendor. (I will explain why and how to avoid this phenomenon in another post).
Revenue Commitments Are Designed To:
- Generate predictable revenue streams for carriers
- Insure that the clients are captive customers
- Defend current revenues from would be competitors
- Create significant negotiating advantages at contract renewals
- Increase margins over time
What % Of Your Total Spend Should You Be Willing To Commit?
Vendors would prefer that you commit 100% of your spend… forever. Typically, vendors will come up with a commitment figure that is 80% of your annual spend. We usually recommend that clients commit no more than 60% of their projected spend over the term, not per year. I will demonstrate below why term based commitments are superior and why you would want to stay away from monthly and annual commitments. For an example, I will use a customer that spends $100k/month or $1.2M/year on a 20 site voice and data network.
Interval Based Commitments
These are the most commonly offered terms. Even if a customer spends 10x the sum of all three years commitment, in the first year, the customer will still be liable for the annual commitment in years two and three. These types of commitments are the most restrictive and, if possible, should be enthusiastically avoided. Some of the terms associated with these types of commitments includes:
- MARC – Minimum Annual Revenue Commitment
- Take Or Pay – Either Use A Minimum Amount Or Pay For It Anyway.
- MMRC – Minimum Monthly Revenue Commitment
- MAC – Minimum Annual Commitment
- ARC – Annual Revenue Commitment
The table below demonstrates the one of the most negative aspects of an annual commitment.
| Year 1 | Year 2 | Year 3 | Totals | |
| Monthly Spend | $100,000 | $100,000 | $100,000 | $300,000 |
| Annual Spend | $1,200,000 | $1,200,000 | $1,200,000 | $3,600,000 |
| % Of Annual Commitment | 60% | 60% | 60% | |
| Annual Committed Spend | $720,000 | $720,000 | $720,000 | $2,160,000 |
| Number Of Spend Months Required Each Year To Satisfy Commitment | 8 | 8 | 8 | |
| Number Of Months Remaining Before Auto-Renewal At The End Of The Term | 2-3 |
In this case, the customer has already spent more than the aggregate committed dollar amount by month 21. Since the customer still has the 3rd year commit to satisfy, the customer is stuck for the duration. During year 3, the customer will still have to give the carrier an additional $720K to satisfy the 3rd year annual commitment. In effect, the real commitment ends up being $3.12M. ($2.4M for years 1 and 2 + $720k for year 3) Unfortunately, most of the agreements we see before renegotiating have a 30-60 day auto-renewal clause. By the time your company has satisfied the commitment, there is only 2-3 months left to do anything about it. Since the incumbent knows it can take 4-6 months to move a large data network to another carrier, the customer no longer has any leverage in the form of a credible alternative. Advantage: (Vendor)
Attainment Based Commitments
If interval agreements represent (the stick), attainment agreements represent (the carrot). Attainment agreements create the feeling that you’re not being forced to spend money with the vendor. This is true. However, if not structured correctly, they can be equally restrictive when it comes time to renew an agreement. If the discount tiers and the requirements to reach them are not carefully negotiated, drops in spend or movement of business elsewhere can reduce the discounts enough, on the remaining spend, to be cost prohibitive. ATT and Verizon use both the carrot and the stick. If you sign a revenue commitment with carriers like this, they will be happy to give you huge (60-90%) discounts off their standard tariff prices. Only when the carrier has delayed the renewal proposal long enough to leave you with no other options, you realize that if you do not renew the agreement, your costs will go back up by that same 60-90%. Advantage: (Vendor)
Total Spend Based Commitments
This category of revenue commitment takes into account your total projected spend during the entire contract period. Some of the terms associated with these includes:
- MTRC – Minimum Term Revenue Commitment
- MTM – Minimum Term Commitment
- Burnout – Once total spend is achieved, the commitment is burnt out and gone.
Note: Vendors do NOT like to agree to these. In most cases, the carrier will deny that they have ever offered them. Having the right negotiating strategy is critical. As long as you have someone on your team that has either negotiated these types of commitments before and/or has evidence that the carrier has offered these terms to other companies, you will have a better chance of success.
In this example, the 60% revenue commitments remains the same however, we have removed the annual minimum requirement.
| Year 1 | Year 2 | Year 3 | Totals | |
| Monthly Spend | $100,000 | $100,000 | $100,000 | $300,000 |
| Annual Spend | $1,200,000 | $1,200,000 | $1,200,000 | $3,600,000 |
| Total Committed Spend Over 3 years (60%) | $2,160,000 | |||
| Cumulative Spend | $1,200,000 | $1,200,000 | $1,200,000 | $3,600,000 |
| Number Of Spend Months Required To Satisfy Entire Commitment | 22 | |||
| Number of Months Before Renewal With No Revenue Commitment | 14 |
By taking this approach, the customer satisfies the total $2.1M commitment in month 22 of 36. This means that the customer no longer has any obligation to the carrier, but the carrier is obligated to keep the current rates and terms in place for the next 14 months. The customer is in complete control at this point. Figuratively speaking, the Sword of Damocles is transferred from over the head of the customer to that of the carrier. Negotiating from a position of complete control enables our clients to get better SLAs, terms and pricing than companies with a less favorable negotiating position. Advantage: (Customer)
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