Should a Shared Service Organization price its services to make a profit?

When setting up a new Shared Service Center or optimizing an existing one, the pricing model is a critical component.  The pricing of services impacts the behavior of both the Shared Service Center and the Business Units, and can ultimately impact the pricing of goods and services produced in the Business Units.  A question that sometimes comes up is: "Should our Shared Service Center price to break even or should we attempt to become a profit center?"

Before I answer that question, let's look at some of the potential pricing models:

1. Centralization of services without cost charged back to the Business Units.  This is the most basic model and is often employed by companies just starting on the journey to Shared Services.  There will be a move to centralize support services in the corporate group.  This centralized support group doesn't have a separate identify or a separate budget.  Consequently, its costs are simply part of the broader corporate organization.  Perhaps the costs are ultimately allocated back as part of a corporate allocation, but the costs of the service organization itself are not directly allocated back to the Business Units.  Consequently, no signal is sent to the Business Units about the true cost of the services they're consuming.
2. Cost allocated back based on fixed price.  Among the charge-back models, this one is the simplest.  An estimate of volume is made and a price is set based on that estimate.  This pricing mechanism can be update annually as part of the annual budgeting process or more frequently if desired.  At a minimum, it sends the message to the Business Units that they are in fact paying for these services, but ultimately it isn't based on actual volume.  Consequently, the B.U.s won't have a vested interest in reducing its consumption of services or partnering with the SSC to optimize processes and reduce costs.
3. Cost allocated back based actual volume (e.g. invoices processed).  This model charges back costs based on an activity drivers so that the Business Units creating the most volume and consuming the more complex processes will pay more for their services.  Only the actual cost is charged back and no profit margin is built in.  The SSC acts as a true cost center without a profit motive.
4. Cost plus a profit margin charged back based on actual volume. This model is similar to the one above but adds in a pre-determined profit margin.  The SSC acts as a profit center; however, it only sells its services internally and does not attempt to sell its services to customers outside the organization. 
5. Market-based pricing model.  In the market pricing model, services are priced to reflect the actual value of the services in the open market.  If you think of the Business Units "outsourcing" their support services to an separate entity, the choice is between a captive service unit providing those services or an independent organization providing them.  In effect, the captive unit and the independent supplier are competitors.  The market pricing model reflects that reality.  Ultimately, if a captive service organization can't provide the services at or near market, the company should consider outsourcing that service to an outside party that may specialize in the process (e.g. Payroll) and has the ability to perform more efficiently than the captive service center.

The two models that should be considered are the cost model and the market pricing model. Companies often choose a captive model over outsourcing because they believe they can provide those services more cheaply than an outsourcing arrangement over the long haul (initial costs are a separate discussion).  This lower cost will provide an additional advantage to the Business Units as they price their own goods and services for the external market. 

Market pricing can make sense, particularly if the company intends to sell to external customers.  Genpact, the former captive GE service unit, it a good example of a previous captive that became its own business.  If the SSC has become so efficient that it can price at market and still make a profit, it doesn't distort the Business Unit pricing mechanism since they would have to pay that market price regardless of whether that service was bought from an captive service unit or an independent company.

While both the cost model and the market pricing model have their roles in a company's overall strategy, one this is clear:  A captive service unit shouldn't pursue a profit strategy at the expense of the Business Units it supports.