Valuation of Benchmark Provisions in IT Services Contracts

Abstract

Information technology (IT) services are often subject to down-ward price pressures due to improvements in technology and business processes in a competitive market. When clients enter into IT services contracts, they are faced with the future risk that their services will be overpriced relative to the broader IT services market. To mitigate this risk, clients often add benchmark provi-sions, whereby a neutral third party assesses the prevailing market price for services. It will support fair price adjustments if the mar-ket prices are lower than the current prices. We model the deci-sion to benchmark in order to provide managerial information on the value of benchmark provisions. We ground the model empiri-cally with data from a leading IT service provider