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Understanding value billing vs. conventional billing

Understanding value billing vs. conventional billing

Steven Burns | April 8, 2014
Illustration: nongpimmy via FreeDigitalPhotos.net

Every company is a sum of the value it delivers to its clients. What differs from one company to the next is how that value is delivered and perceived. All too often, it is based solely on the fee you charge.

As you may know, there are three basic methods of charging fee for services:
• Cost-based: Your fee is a multiple of pay rate or cost rate
• Market-based: Your fee is based on what competitors charge
• Value-based: Your fee is based on the value you provide

Cost-based fee

Cost-based fee is easy to calculate. Figure out overhead and desired profits, divide by 2,000 hours (or some other hour goal) and add that to the pay rate. You have an hourly fee. Cost-based fee applies whether you are charging an hourly, monthly or fixed fee. They all start with the hourly rate.

However, when you invest in technology, productivity gains decrease your costs. In some situations, companies employing a cost-based fee structure may lower their hourly rates, but that is extremely rare. And if you don’t lower your rates, you are no longer following a cost-based fee structure.

Market-based fees

Market-based fees, or mimicking the fees of others, is the most common approach among professional services companies. It is also the greatest threat to profitability. Why? Because real-world actions show that companies tend to compete on fee alone. You cut the fee by a few dollars to get the business. Your competitor counters it with a lower fee. This downward spiral leads to commoditization. In short, you train your customers to value your services based on price and not value delivered.

Again, when you invest in technology and productivity gains accrue, you may be able to sustain good profit margins but only in the short-term. Unfortunately, efficiency and productivity gains too often lead to conventional marketing decision to lower fees, creating a Death Spiral – competitors lower their fees, you lower your fees, they lower their fees and so on. In this process, a fundamental marketing concept is ignored: differentiation.

Value-based fees

The truth is that most professional services companies already set fees based on value. Not sharing technology-based productivity gains with clients is a basic form of setting fees based on value. Beyond this, however, most firms stop dead in their tracks. They continue to follow routine steps for bidding on projects. Going beyond this requires an understanding that value is not solely based on internal efficiency. The greatest value is perceived by your client. It is how you differentiate yourself from your competitor.

Read more from the BQE blog. 

Editor's note: This is sponsored content. The text was provided by the sponsor company. 

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