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Outcome-based Contracting

Imagine dining at a resturant and only having to pay if they make your food exactly the way you want it. Your meal will cost you six pounds if it comes back with all your specifications met. If any of your choices are missing, you don’t pay, and the chef knows this. This is why outcome-based contracting (OBC) is becoming increasingly popular. An executive briefing by Irene Ng, Jason Williams, and Andy Neely stresses the benefits (particularly to the customers) of OBC: Traditional service support or maintenance, repair and overhaul (MRO) contracts often benefit the service provider at the expense of the customer, since the service provider earns revenue only when a particular equipment is faulty. This does not align the needs of the customer with the service provider, indeed the service provider, for example, has no incentive to ensure the equipment continues to function well. At its extreme, it may result in the perverse behaviour of a service provider providing low quality equipment just to earn higher revenues from providing services later on. It stands to reason that OBC will lead to an increase in service providers working to produce on a higher quality basis so that they will actually receive payment. The article uses the example of Rolls Royce’s “╦ťPower by the Hour’ wherein continuing maintenance in paid based upon the number of hours the customer obtains power from the engine. A further benefit for OBC in the UK market is that outcomes become more efficient and predictable. Costs, among other areas, are more easily controlled. Opportunity for innovation presents itself because there in an increase in the motivation of service providers. The article suggests that this will also lead to an increase in competitive advantages. It is important to keep in mind, however, that there are some drawbacks to OBC. The lack of boundaries can lead to unfavourable business relations and poor coordination with suppliers. Tried and trusted traditional methods may not be favourable with OBC, so it is important to review before making decisions.

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