SSON Clinic: Chargeback mechanism SSC

SSON News and Analysis
Posted: 07/09/2012

 

Question: I am looking for some credentials regarding chargeback mechanism within a Shared Service centre. I know that there are quite a few options, like cost per transaction, percentage of usage or cost-plus, but which mechanism has been considered as best practice? It would be great if you could add some credentials of these best practices.

Phil Searle: Whether and how to use Chargebacks for shared Services is a significant item for debate and consideration for those planning to set up a new Shared Services operation.  I would add that this is also a significant topic for existing and mature Shared Services operations as well!

The aim of chargebacks is to implement a commercially based pricing mechanism to support the provision of services to the internal customer, just as would be the case if the Shared Services operation were an independent, commercial entity.  Remember that the key difference between Shared Services and traditional Corporate driven centralization is the emphasis on the customer, and the effective use of chargebacks can be a part of this. 

Chargebacks are also often introduced to assist with allocation of effort and resources and to help drive behaviour, as it the case with independent "arms length" pricing.  It is also important to remember that the third party outsourced service providers already do have independent "arms length" pricing as they are commercially driven, separated businesses in their own right.

So should chargebacks always be used and, if so, what are the "best practice" methods of calculating chargebacks?  In fact there are many different way of calculating chargebacks, as highlighted in the question, ranging from simple high level "allocations" (similar to traditional Corporate calculated type of allocations) through to much more complex pricing, based on service levels agreement levels, volumes, exceptions, preferred technologies etc.  Allocations themselves can take a range of forms as well, from straight one-for-one cost allocations to cost plus pricing and other cost allocation based methods.

My advice is to keep it simple, especially early on, but do determine when it is best to implement some form of chargebacks and then when to make the method and calculations more complex.  In the early days of implementing a new SSO don’t get distracted by the desire for complex pricing mechanisms as this could deflect you from actually implementing effective service offerings under the new SSO umbrella and could result in protracted and unhelpful pricing "negotiations" with the business.  However, as things begin to settle down post initial implementation and service provision becomes more standardised and embedded, then consider implementing more complex pricing mechanisms to help allocate resources and drive internal customer behaviour for the benefit of all concerned. 

An example of more complex pricing would be to charge based on a menu of services and transaction types (e.g. manual invoice vs automated invoice, request for change to inventory master, customer master or vendor master data, processing of payroll by country/currency, etc).  You could also consider introduce penalty pricing where a much greater fee is charged for "exception handling requests" from the Operating units (e.g. for emergency cheque requests, rapid response turnaround requests faster than stated in previously agreed Service Level Agreements, processing of purchase invoices without an approved PO, late entry of journals, incorrect coding, improper use of communication channels for making service requests etc).  However, I would like to reiterate that one of the main advantages of an inhouse SSC over a third party BPO provider is that you can keep it simple so don’t get too complex too quickly. 

You also need to ensure that you have the systems and tools in place to actually track what you want to measure in order to calculate periodic charges to the business (based on whatever volumes and variables have been agreed to calculate prices). You don’t want to have to perform complicated pricing calculations manually as this increases workload and is of course also prone to manual error and debate.

I would recommend when moving to commercial type pricing to consider when the right time for this is and then how to do it.  In the early stages of implementations for Shared Services you don’t necessarily want the operating units to be able to go outside of the internal SSO as they may well chose to do this before you have had the chance to eliminate inefficiencies (through standardisation, automation, etc).  If this were to happen this would cause an ever greater cost problem to the corporate through duplication of overheads – internally and then with the third party BPO providers sourced by the Operating Units themselves.  So be careful when deciding if, when and how to allow the operating units to "go outside" to buy their own services.  I would normally suggest at least 12 months after implementation that operating units are NOT allowed to seek alternative providers. And probably longer.  Having said this, ultimately if a SSO can’t justify its costs and pricing against alternatives (along with other critical considerations around service and control) then the SSO is not performing as well as it should and may have failed to deliver on its promised.  SSOs should not be "afraid" of competition and should be transparent in its internal costing and pricing, even if chargebacks or commercial based pricing are not used.

One could also consider going to commercial pricing sooner rather than later by "eating" any excess costs incurred by the SSO within the SSO itself so that the Operating Units feel the benefits of commercial pricing sooner.  Then the SSO would have to work out how to quickly achieve efficiencies to eliminate any excess of costs over recoveries from the operational unit pricing so that the whole Corporation benefits from reduced cost to service from Shared Services.  This "commercially based" pricing could be based on best practice benchmarks considered relevant and appropriate to the scale and complexity of your business.

So, in summary:

  • Chargebacks can be a significant enabler for effective shared services
  • But timing and complexity considerations are critical
  • Consider keeping them very simple early on and only make them more complex once you are more stable
  • Leverage them to help allocate resources and reduce costs by "rewarding" the following of agreed, standards processes and penalising exception processing
  • Make sure that you have or can introduce systems and tools (preferably leveraging your ERP platform where possible) to calculate and track your chargebacks

For more information, contact:
Phil Searle, Founder and CEO, Chazey Partners
www.chazeypartners.com

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SSON News and Analysis
Posted: 07/09/2012

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