Fixed Cost vs. Time and Materials: What is the Difference?
The pricing model is an integral part of running a business. It affects not only the profit's size but also the final product's quality, whether it is a concise software for corporate use or an ambitious application for the public.
So it is very important to assess the needs of the business and determine the right payment model. The wrong choice leads to loss of profits and customers and often to the closure of the project.
In this article, we compare time and materials vs. fixed-price models and identify their advantages and disadvantages. We will also try to understand for which business needs and purposes it is better to choose a fixed price and for which time and materials would be the best option.
What Is a Fixed Cost Model?
The fixed-price/fixed-cost payment model, as the name implies, is based on determining the exact amount of payment before starting work on the project. This type of contract requires that both parties (service provider and customer) immediately define
- amount of work and all necessary services;
- terms of its execution;
- cost of services for the entire development period and payment details (one-time payment or installments).
Before signing the contract, the client receives a planned product development project, including the exact budget. Therefore, professional analysts must assess the volume of work.
In cases when during the development process, it turns out that you need to add other features or change the tech stack, additional expenses may occur. Therefore, the fixed-price model can also include a payment for the analyst's services who are well aware of business needs, goals and market characteristics.
When Do You Need a Fixed Cost?
In many respects, the choice of payment model depends on company size, its scale, and project needs. A fixed cost will be a good solution for:
- MVPs (minimum viable products). They don’t require dynamic improvements, periodic strategy evaluation, and additional features so a fixed-price contract could be a perfect payment option.
- Products of public sector organizations with strict budget requirements and specifications.
- Almost all small projects with limited development time and strict deadlines.
- Small and medium-sized projects with a specific list of features.
This payment option is perfect for new companies that are just beginning their journey in the industry and have limited financial resources. It’s also quite useful if you need to upgrade or improve an existing product (add some clearly defined features, implement certain technologies, etc.).
What Is Time and Materials Model?
Time and materials model involves payment of the cost of a specific work amount (often at an hourly rate), as well as compensation for materials costs (machinery and equipment, software licenses, etc.). Simply put, you pay for what the developers actually did and the subscriptions/software they needed.
Such a system offers some flexibility, namely
- ability to independently control and adjust your budget in the process of product development;
- regular reviews of product features;
- more flexible terms of work;
- flexible payment intervals.
In this case, the contract terms are more general, without binding to time or a list of functions. In the work process, the supplier adapts to the customer's new needs and performs the tasks dynamically.
It is also worth noting that this form of payment gives more control to the customer. You can control the quality of each service, adjust the list of needs and understand what you’re paying for. Sometimes the payment is divided into separate parts and at the end of each period, the client can check the amount of work performed and discuss new requirements with developers.
When Do You Need Time and Materials?
The time and material contract is convenient for constantly growing projects that need regular scaling and changing. It’s also great for long-term, large-scale projects with constantly changing conditions. And of course, such a system is a suitable solution in cases where the amount of work can not be determined immediately, so you need to have some flexibility, including in development methods.
In other words, the time and materials model is useful for
- large or long-term projects with an extensive list of requirements and features, which is updated regularly;
- products in areas where the market is changing too fast and requirements cannot be adjusted to a fixed price;
- for software in the field of automation, which requires constant updates;
- for optimization programs and business management.
Such a payment system is often used in providing SaaS services.
What is the Difference Between Fixed-Price and Time and Materials?
The main and fundamental difference between fixed price and time and material pricing frameworks is the features of project management and control capabilities.
In the case of a fixed cost, the customer evaluates the proposed version of the contract and current budget, makes needed changes, and doesn’t participate in subsequent processes after signing it. The client is simply waiting for the task to be completed within the timeframe specified in the contract.
This approach is quite convenient if you need to free up some time for other business needs. You don’t have to control every development stage, participate in discussions, etc. Development company managers are responsible for all these processes.
As for the time and materials model, the client has much more opportunities for process control and project management. As product development in such cases is divided into phases, the customer can meet regularly with the team and make suggestions.
For example, you can make changes to the work plan, receive regular reports, choose the number and composition of the development team, etc. Also, this approach gives more flexibility in terms of deadlines.
Workflow and Billing
Let's talk about workflow and billing features to compare time and materials vs. fixed-price models from other points of view.
Fixed Price Workflow
The workflow in the fixed-price model looks like this:
- Creating the most detailed technical specifications and priorities clarifying.
- Creating an accurate list of work to be performed.
- Forming a detailed estimate based on all points mentioned above.
During the work process, the customer cannot add or exclude certain functions, change priorities, etc., at least if it could prevent the vendor from completing the project within the time specified in the contract.
New agreements are often made to make changes and additional modifications. Such work is paid separately, outside the fixed cost. Thus, the project has clear time limits, but the customer has minimal impact on the workflow.
Time and Materials Workflow
The workflow within the time and materials model is somewhat different. As there are no strict specifications and detailed contracts, the client can expand/remove functionality, change priorities and project features, etc. Of course, all changes are paid for, but this is not separate from the total payment under the contract but as part of the team's hourly wage.
In addition, project managers regularly inform the customer about the amount of work performed. The client has more control over the project.
Everything is simple and plain. The fixed price model is a fixed payment; the amount is determined before the start of work, as well as the timing of payment. As mentioned above, additional services are paid for individually.
The time and materials system provides for payment of team members' hourly rates and material costs. The amount of payment is not determined from the beginning. Therefore, in some cases, you can save a lot. If it’s a long-term project and implementing specific technologies becomes more expensive over time, the cost is more than in a fixed-price contract.
Fixed Cost vs. Time and Materials
Each system has its own advantages and cons. It’s crucial to pay attention to five basic points: flexibility, time, cost and predictability, improvements and management opportunities. So, let’s compare fixed fee vs. time and materials models.
Fixed Price Model
Time and Materials Model
There is almost no flexibility because all the specifications are clearly determined in the contract, and deviations from it are almost impossible. This is not a very good trend in the long run.
This model offers 100% flexibility. During the development process, the customer can make any changes. And it happens almost instantly if the team works according to the Agile methodology.
Thus, long-term projects keep up with rapid technological changes, can correct the course of development, etc.
|Fixed Price Model||Time and Materials Model|
Predictability of results is one of the most essential fixed price model pros. Before signing the contract, the vendor and client conduct an in-depth analysis and clarify the coordination of all development stages. The document specifies all cooperation details, starting with services’ cost and ending with control conditions.
This way, the customer always knows what the development costs and what the end product will be. All this saves a lot of money for simple and short-term projects.
However, in terms of the cost, one disadvantage should be taken into account. The fixed price model doesn’t keep up with market changes, in the long run, so you’ll have to pay extra for additional features and improvements. In this case, the option of time and materials will be more profitable.
The time and materials model doesn't offer a precise budget. At the initial stage, the client receives only the approximate development cost. It is also impossible to immediately predict the time frame for the completion of the project.
On the other hand, making changes, implementing new technologies and additional testing may be cheaper than under the fixed price model. The customer pays only for what is really needed to improve the product.
Improvements and Changes
|Fixed Price Model||Time and Materials Model|
Improvements are possible but may cost extra. Corrections of errors, elimination of obsolescence of the system, etc. may be specified in the contract but not in full. One way or another, large projects need large-scale changes. And such a model cannot provide them.
It’s also worth noting that the contract and services list is determined based on the market state at a particular time. Today, market conditions are changing rapidly, so developed software doesn’t always meet expectations.
Dynamic workflow is one of the main time and material model pros. This approach allows you to improve your development strategy, make important decisions and changes for better results.
In addition, hourly wages motivate the team better and improve its efficiency. In the end, you get an up-to-date product that fully meets market conditions.
|Fixed Price Model||Time and Materials Model|
Management Features are specified in the contract. The supplier provides full control over the project and doesn’t have to report to the customer regularly. Here is an important nuance: if the customer and the contractor didn’t get along at the initial stage, the results might not meet customer expectations.
So, on the one hand, the customer frees up time for other tasks; on the other hand, he has no control over the project.
This model provides extensive management opportunities.
The service provider regularly reports to the customer and prepares presentations and meetings. The client can make changes whenever he sees fit because he pays for the time.
The type of product, its scale and development opportunities greatly influence the choice of payment model. So, before signing a contract, you should understand the project's needs: the level of flexibility, functionality, time frame, and so on.
Each model has its advantages for specific cases. For example, a fixed price option would be a perfect solution for small projects with clear and straightforward functionality. In this case, you can save money and time.
In addition, the fixed price is suitable for projects that do not require strict management. The customer can trust the team and deal with more important matters.
The time and materials model will be the best option for large and long-term projects that need flexibility in all aspects. It allows you to receive additional development services and implement new features without other contracts or overpayments.
Besides, this option provides the opportunity to control the development process? Make changes and get reports on every stage of the project. Clients have as much control as they need and pay only for specific services.
Ardas has extensive experience in both formats. Our specialists will be happy to help you figure out the best option specifically for your product and business needs. So feel free to contact us in any convenient way.