Billing models in software house – how to choose the best option for your project?

Are you about to work with a software house and outsource your IT project? One of the essential things you need to consider before signing a contract is choosing the proper billing model. You can bill with a software development company in several ways, depending on how precise your product vision is. If you still don't know what to choose, read our article explaining the most popular software development pricing models.

What is Time and Materials pricing model?

The first of the most popular billing models is Time and Materials. The project's financial assumptions are set on a forecast basis, and the actual billing is based on the time the team spent on the project and the resources consumed – you simply pay for the hours worked. The Time and Materials model allows flexibility in setting the work direction and better risk management.

Time and Materials enable you to have greater control over the project. As the client, you are involved in the development process, receive information about the work in progress and decide on the next steps. Constant communication with the project manager of the development team allows for dynamic decision-making and improved time efficiency.

A definition of Fixed Price billing model

Another way of billing for team augmentation is the Fixed Price model. It involves setting up a detailed project framework with a fixed cost for product development. In addition to the price, a work schedule is also predetermined to plan the solution’s release to the market.

The Fixed Price model does not require you, as the client, to be constantly involved in the project because the scope of work is clearly defined upfront, and the software development partner knows exactly what needs to be done. Nor do you generally get involved in troubleshooting because expenses for unexpected situations are specified in the contract. It is up to the software vendor to allocate resources for all stages of the project so that it can be completed successfully.

T&M pricing model vs. Fixed Price – pros and cons of both contracts

The previous definitions outlined the most common pricing models used by software houses. Now, the million-dollar question: which one is more profitable?

Check out the positives and negatives of each cooperation method, and don't let yourself be surprised!

Assets of Time and Materials contract

• Billing for hours worked and resources used – you only pay for the work that is actually done.
• High flexibility – time, financial and design assumptions can change during the work, allowing you to reach a satisfactory solution.
• Faster project launch – you don't need a detailed specification to start a project because many things can be agreed upon the process.
• Dynamic decision-making and better risk management – if you have evidence that the product in its current form will not take off, you can modify its elements.
• Greater control over the project – through frequent meetings, reporting and joint decision-making, you have information about costs, timelines and the product shape.
• Focus on the project, not the budget – you don't have to wonder if the costs have been set up correctly because you receive cyclical information on workload and resource utilisation.
• Meeting your exact needs – you receive a product that fully corresponds to your final requirements and expectations.

Cons of Time and Materials contract

• You need to be highly committed to the project. Hiring an external team in a T&M model involves attending frequent meetings and making a lot of decisions, so you need to plan to cooperate with the software team among your day-to-day responsibilities.
• Uncertain timeline – be aware that the project's changing requirements may affect the initial release date in a Time and Materials model.
• Less control over the budget – the initial estimate might not be the final cost because the final charge for the software may change along with modifications in the product development scope.

Pros of Fixed Price contract

• Contract with stable price – in the fixed price model, you know the total custom software pricing in advance.
• Predefined deadlines – all stages have a defined timeline.
• Less ongoing involvement – you typically provide detailed requirements upfront, which are then documented in the contract. Minor clarifications or adjustments might be necessary during development to ensure the project stays on track. You'll be kept updated on progress throughout the development process.
• Detailed documentation – everything is agreed upon before work starts, so you know the exact shape of the future product.

Weaknesses of Fixed Price contract

• Longer preparation time – extensive planning is crucial and takes extra time. This involves working closely with the development team to create a detailed list of features that outlines all functionalities and requirements.
• Your product's final shape needs to be precised upfront – an accurate definition of your needs is crucial, otherwise, the software will not meet your expectations.
• Less opportunity for project changes – you can only suggest modifications that will not go beyond the project budget and time.

When to choose the Time and Materials pricing model?

Time and Materials is the perfect solution for situations in which you have a certain vision of the product but no concrete shape. The flexible software development model will allow you to follow the next steps and take further direction based on the results. T&M is a good choice in a world of rapidly changing business needs. In this situation, you are assured that your concept will not be outdated at the time of its release and will solve the problems of the largest possible audience.

Time and Materials will also be a suitable pricing strategy when you decide on a long-term collaboration with a software development company, and the first idea is only the starting point for a family of products.

Example: Jan plans to create an app that offers customers intelligent shopping advice in her handicraft e-shop. She decided on the Time and Materials model because she would like to create a unique solution based on the latest technology and suggestions from her customers, who are regularly surveyed on her social media.

When the Fixed Price model is the best?

Fixed Price can be a good choice for projects that are characterised by small size and limited budget. Predetermined costs make it possible not to exceed the expenses of software development outsourcing. In this way, solutions well-known in the market will be prepared without problems, and the only thing that makes them different is the customisation of details for a specific industry or customer.

Under Fixed Price, you can also create a Minimum Viable Product (MVP), the simplest version of your product that you need to run your business. You can expand (or close) it when you gather feedback from your audience.

Example: Charles wants to create an app where clients can order rides in his taxi company. He decided on the Fixed Price model because he wants a simple and functional product for his business’s opening in a few months.

Fixed Budget – the middle ground and perfect compromise?

Do you need a solution that combines the best features of both software pricing models? Fixed Budget financing provides such an option. It keeps your budget predictable without losing the space for flexibility.

Under a Fixed Budget, as with a Fixed Price model, a detailed project scope and cost estimate are established upfront. Similar to the T&M model, payments can be made based on hours worked or resources used, but without exceeding the fixed budget. In this model, unlike Fixed Price, you can make changes to the project more easily while staying within the budget. You change previously planned functionalities to others more suitable for the project. You do not need to renegotiate the contract or sign additional commitments.

Example: Stanley wants to create an application for runners. He chose the Fixed Budget payment model to not exceed the budget, but he needs to be precise with his team about which functionalities will be more useful for users.

Conclusion

Project development can have a number of scenarios that provide an intuitive way to determine its funding and timeline. With the Time and Materials, Fixed Price and Fixed Budget models in the IT industry, you can create your dream application based on what is most important to you – whether you want to optimise costs, reduce development time or exercise control over the progress of the project. An experienced software development partner will help you choose the financing model that will bring you the most benefits.