Unless you have been living under a rock these past few years, you would be aware that the concept of hourly billing is no longer the favoured pricing structure for service delivery businesses. Hourly billing relies on timesheets for capturing billable (and non-billable) time. The argument goes that all time tracking activity should be disregarded when it comes to setting value pricing. I disagree.
I believe there are three key pricing models:
- Hourly pricing
- Fixed fee pricing
- Value pricing
The first two models are easy to implement because they are based on actuals. Bill for time spent, or calculate a price based on cost and mark-up. To calculate a value price is much more arbitrary. I wanted to be able to approach value pricing in a way that took away the guesswork.
My view of the value pricing model is two-fold – to produce a risk free, scope clear, calculated pricing proposal for the prospect, and to incorporate processes for internal business analysis.
Internal business processes that require analysis include –
- delivery management,
- client change management,
- risk management,
- individual team capacity,
- overall team capacity forecasting,
- performance review systems – practice, price, and team
Calculated price is about accounting for cost and also allowing for GP, risk management and the addition of value. Being able to calculate a value price is only part of the model. The second part of the model is the critical component to this discussion.
The monitoring of these internal business processes is achieved by the tracking of budgeted effort against effort used. Effort is tracked back to an item of scope and to the person fulfilling that role. The tracking of activity with the tracking of time (effort).
Before a value pricing package can be determined it is critical to get to know the prospect. This discovery phase is where systems around analysis and scoping are used to develop a deep understanding of the prospect and to further the understanding of the complexity of the work for which you are expected to provide a solution.
The value package presented to the prospect contains a budget for the effort required to achieve the service delivery. Simply put – this is the time allowed to achieve the required tasks. The team now understand the effort or allowance of time permitted in order for them to be able to complete their work and deliver the service.
Not only does each team member understand the job expectations, but they are also in control of monitoring scope creep. Their deep understanding of the client scope of engagement means that they know when to trigger an alert. Change management is an opportunity to sell additional value to your clients.
Each prospect discovery needs to identify the potential for risk. When a practice moves to value pricing the onus on delivering the agreed scope is entirely within the practice. Risk to an engagement are things like client reliability, response time and commitment; each of which can affect service delivery and engagement profitability. The measure of risk is understood as contingency. Contingency is a buffer of time on items of scope fulfilled by certain roles. Unused contingency is a direct injection of profit to a practice's bottom line.
An understanding of the 'allowed for' effort in a client engagement means that capacity can be managed. Capacity management uses the concept of a full-time equivalent (FTE). Each team member has capacity measured as a partial or full FTE. Being able to associate an engagement back to budgeted effort means that the team members assigned to that client have their personal FTE availability reduced. The available FTE of each team member contributes to the total practice FTE capacity. Tracking the available capacity of a team member enables the monitoring of their ability to take on additional work. Monitoring the FTE of the practice as a whole means that the critical point for engaging a new team member can be identified. What can be measured can be managed.
A business with vision and goals is a business geared for growth. To track growth, there must be measurable components. The practice needs to review practice performance against internal growth targets; to understand the profitability of an engagement – is the client engagement being fulfilled within scope or is the effort required to fulfil the scope greater than expected? Is contingency used? These are all measurable because expended effort is monitored against budgeted effort.
A pricing review is a check that your delivery price is in line with scope, changes in CPI and the value you are delivering to your client. A pricing review cannot be completed without a thorough understanding of the required effort of the engagement.
Team performance reviews are about work performance and personal development. A part of work performance is the assessment of how well the scoped work has been completed. Is it completed within budgeted effort? Has any of the contingency been used?
Diligence to tracking activity against budgeted effort enables a measure of when the engagement is being met or not. Meeting or under achieving budgeted effort is the cream of good service delivery. How you choose to use this cream within your practice is entirely up to you. Keep it within the business or give back to the team. Being able to measure performance means you can make choices based on calculable metrics.
Maintaining the use of timesheets within a practice to track billable activities is not the answer. A modern practice can be effectively managed by actively tracking activity and effort. Without this process a practice is only guessing about practice capacity, wouldn’t have optimal team capacity, is missing value-add opportunities, and would not have the necessary metrics in place to conduct internal reviews.
Timesheets with an emphasis on tracking all available hours may be anathema to value pricing advocates, but tracking effort to support business growth is key to a successful practice.