Fixed-fee pricing lets you charge based on value rather than hours worked. But to get to that point, there’s an important mindset shift you first need to make.
Like many of the agencies we work with, our client operated on a cost-plus-time model. This means they charge an hourly rate, in addition to an outside fee and agency fee.
You likely do the same.
But, there’s a big problem with this model:
It allows clients to keep asking for more and more from you.
In theory, that should be okay. More work means more hours that you can bill. But in practice, this model can open you up to scope creep that can eat into your profits.
That’s exactly what happened to our client.
As the scope of projects kept increasing, their billing patterns didn’t follow suit.
There are several reasons for this. Your agency may not bill because the client didn’t approve the work. Alternatively, the contract you created may have a “do not exceed clause”, or the client’s Purchase Order doesn’t cover the work.
Whatever the case may be, the result is always the same.
You do more work for less money.
Making the shift to a fixed-fee pricing model made a huge difference for our client’s agency. After spending 18 months moving their clients over, the agency saw a 36% increase in gross profit!
You could achieve the same. But before you make the shift, you need to know more about the fixed-fee model and the big mental barrier that can stand in your way.
Why Switch from the Time-and-Cost Model to the Fixed-Fee Model?
The simple fact is that the time-and-cost model no longer works in the modern business environment. Developed in the early 1900s, it’s an antiquated model that doesn’t convey the true value that you bring to the table.
This is particularly true for service-based businesses, such as agencies.
With the time-and-cost model, you’re limited in terms of how you can generate more revenue. Your only real option is to bring in more employees so that you create more billable hours. From there, you focus on increasing employee utilization to a point where you can bill for 80% of their time.
After that, you can only increase your revenue if you add more hours or bill more for those hours. And in many cases, the latter doesn’t seem like an option as you believe it will anger clients.
How does the fixed-fee model differ?
You move away from the need to find more hours to generate more revenue. Instead, you’ll increase revenue by creating efficiencies and capacity within the business. And you’ll be charging for the value that you bring, rather than the hours that you work.
The Key - Shifting Your Mindset
We already know what you’re thinking as you read this article:
“We’ve used the time-and-cost model for years. It’s the industry standard and it’s what our clients expect from us. We can’t make the switch to value-based pricing because we risk losing clients.”
It’s a common form of pushback that many in the industry engage in when they hear about this model. And it’s the result of a mindset issue, which you need to overcome if you want to create a more profitable agency.
The time-and-cost billing model is not the best model. But it is considered the industry standard.
Let’s confront the key fear that you have when it comes to making the switch – losing clients.
You’re scared that making this change will lead to your clients abandoning your agency. They’re used to paying in a particular way and you believe changing things will unsettle them. You worry that they will attempt to use their leverage to make you change back. And if you don’t, they’ll head to an agency that still uses the traditional model.
We encourage you to read the case study we shared at the beginning of the article. That agency had many of the same fears. However, making the change led to a huge increase in gross profits. And this is a pattern we see across most of the agencies that we work with.
The majority, if not all, of your clients will stick with you as long as you get one thing right:
Make it clear to your clients that this change in model is something that benefits them. It’s because they’ll be receiving a better and more transparent service from you while no longer dealing with variable pricing. This means everything is now within their budget, thus generating the ROI they are looking for every time.
Here’s the general terminology that we encourage our clients to use:
“We are changing our billing model to remove the unknown for our clients. We are aware that, from time to time, the hourly billable rate causes you to go over budget. We are moving to a fixed fee model so that we can remove the unknown from a budgetary perspective for you.
At the start of each project we will provide you with a fixed cost for the scope, allowing you to have assurance that you will get the same work product without any variable costs.”
Your task is to change how you think about the concept of moving to a new billing model. With the right positioning, you don’t need to worry about losing clients.
Start Making the Switch Today
The fact is that the time-and-cost model causes issues for both your agency and your clients.
For you, it opens the door to scope creep. Your people end up working hours that you can’t bill for and you put more strain on your agency.
For your clients, they have transparency of their spend for the outlined project scope. You will be able to more accurately identify their ROI and the value you provided. The time-and-cost model can lead to them facing unexpected bills for work they expected to get done.
By making the switch to fixed-fee, you create more certainty in your business. You define the scope and price with each client before you begin work. And best of all, you get to charge for the real value that you bring to their business.
All that’s left is to start making the switch.
At Patin & Associates, we’ve helped many agencies change to the fixed-fee billing model. If you’d like us to learn more register for our webinar Value Based Fees.