Target Cost Contracts – Agile Programming Methodology

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Target Cost

Custom software development has, by its nature, risk associated with it. There is
complexity and uncertainty associated with user requirements, existing technical
systems, software tools, hardware and infrastructure, and even the people on the
project.

In order to account for this risk and assign risk to the group best able to manage
and mitigate risk, we have developed a “risk-sharing” contracting approach we
call Target Cost. We have used this model for several years and have found it
greatly superior to other contracting options for custom development services.

The Target Cost approach has two parts to the fee structure:

1) Fixed Fee – based on delivery of units of functionality, and
2) Hourly Fee – based on the actual time spent developing functionality.

By breaking out the fee structure into two components, we align the developer’s
goal of high effective rate, with the customer’s goal of low total budget.

Fixed Fee
The Fixed Fee is calculated as a percentage of the total cost estimate and is
calculated based on the functionalities (story) point value. It is billed after the
story is successfully completed. Success is defined as accepted by the client
and code is pushed to the staging environment.
The Fixed Fee on a story never changes, regardless of how much time we spend
on development.

Hourly Fee
Actual time spent on development is billed at an hourly rate based on the rate
schedule listed in the proposal. Development hours include time for meetings,
project management, requirements, design, development, and deployment.
Cyrus bills you only actual time and provides detailed hourly time reports broken
out by story.

Example

To illustrate how this works, take a three point story about adding shipping options to a shopping cart. In this case, the estimated time to complete one point is 20 hours, the Fixed Fee is $600/point and the Hourly Rate is $120/hr. The table below illustrateshow the effective rate and total cost change if the story takes more or less time than estimated.

Actual Time     Hourly Fee         Fixed Fee         Total Fee          Effective Rate
40 hrs                $ 4,800               $ 1,800             $ 6,600             $ 165/hr
60 hrs                $ 7,200               $ 1,800             $ 9,000             $ 150/hr
80 hrs                $ 9,600               $ 1,800             $ 11,400           $ 143/hr

Example Invoice Calculation
The following is a sample invoice based on a two-week iteration where eight
points were completed in 140 hours.
Description                                                       Amount
Hourly Fee (140 hrs x $120/hr)                       $ 16,800.00
Fixed Fee (8 points x $600/point)                    $ 4,800.00
Total                                                                $ 21,600.00

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