The Price is Not Right

From time to time I'll invite compatriots and experts with a great point of view to "guest" on my blog. Today I bring you insights from Chris Kalnik, a TPI partner who leads our financial-analysis practice. Take it away, Chris! …

Imagine you've hired a contractor to gussy up your kitchen. You draw up plans, agree on materials and ballpark a price that fits in your budget. Then, mid-way through the job, the contractor tells you his costs have gone up dramatically, so yours will, too.

I can guess at your response, and I won't try to print it on a family-friendly blog like Peter's. Suffice to say you'd be entitled to be upset.

Just as you shouldn't be expected to pay a higher price for your new kitchen, neither should outsourcing clients be expected to incur inflation adjustments higher than experienced in their “home” country from their foreign-shores service provider.

And yet this kind of price dance is taking place in our industry, with clients and service providers warily circling each other.

Let me be clear: Service providers should not have to accept contracts that put them in untenable situations, especially in relationships slated to last for a number of years, during which price pressures really ought to be examined from time to time.

But we also think clients should not have to bear an additional, undue inflation risk because a service is now being delivered in an overseas locale.

There are a number of reasons why creeping inflation in the provider's location shouldn't automatically translate to higher prices for the services being provided.

First off, inflation does NOT affect all costs uniformly – or at all: The computers, networks and other equipment being used to do the job aren't suddenly more expensive. In addition, basic technology costs continue to fall, giving a cushion to the provider. It's also critical to note that rising inflation does not translate into uniform salary increases. In places like India, in fact, it's often the opposite: experienced workers jump ship for better jobs only to be replaced by lower-paid staff. In fact, no company's salary budget increases at the rate of inflation.

Nevertheless, organizations and their advisors need to give careful consideration to the choice of locale and provider due to inflation concerns – and that also means making sure that any contract language about inflation uses an appropriate measure. That's typically a government-supplied or blessed indicator, such as consumer price indices in the U.S. or Europe.