= Cost vs. Value

/It was more of a square table than a round one, but thanks to everyone who came out for this excellent discussion. Lots of notes below! -- Jay /

Mike Glenn's talk on /Time Management for Small Businesses/ from TorCamp1 (see notes: ETATimeManagementForSmallBusiness) generated a really interesting conversation about how we, as Professional Services businesses, should be charging for our products and services. The debate centered around the idea of cost vs. value: should we charge for five hours of time if a service cost five hours to build (the 'Law and Accounting' model), or should we charge for what we think the service is worth to the client (the 'Advertising' model?).

We had to cut the talk short since we ran out of time in the session, but a number of people expressed an interest in continuing the conversation. Please join us at the first TorCamp RoundTable! wino kredyt mieszkaniowy sprzedam mieszkanie sprzedam bilet

Details

Date: Thursday, January 12th, 2006
Time: 6:30 pm
Location: Sweet Lulu, 859 Queen Street West. Upstairs room is reserved for "Jay".
Topic: Cost vs. Value Billing for technology related professional services firms
Format: An open, round-table discussion over dinner and drinks

Attendees:

Notes

/Apologies if I made any transcription errors - please correct or add your thoughts! Thanks - Jay/

Mike recaps his presentation from TorCamp (see notes: ETATimeManagementForSmallBusiness)
- Hourly rate, setup tasks, track tasks
- See if we're over/under
- Estimate Track Analysis (ETA)
- Full circle process that helps employees get better at estimating
Deb: reputation earns you the privelege of charging more
Jon: from our standpoint, we've been having lots of discussions about how to charge.
- We might want to start charging by value instead
- Services business can only grow by adding people or raising prices under current model
Deb: you can also change your quality - if you lower it then you can churn out more
- Jon: that's a volume game so you end up adding more people again
Jon: we do frontend user interface design right up to building then we hand off to a tech group
- Ultimately all in the business of selling our hours
- We all looked to lawyers to figurer out a model in the beginning
- We don't want to grow by adding bodies - we want to grow by charging more
Rob: Is there information asymetry between you and clients over how long a job is going to take?
- Jon: We're better than they are but they have some awareness
- Jay: It's the same with us: a common question is why can't you build it in three weeks?
- Rob: it's the same with law. We typically retain IP to our work.
- Jon: We lose ours.
- David: If you go in with some tech then you keep it, but if you build something for them then you lose.
- Jason: Same for us - any tech we have we maintain but any artwork we build we lose the IP for. If we use our existing toolkit then we have to sign over IP and then the project will quadruple.
- Rob: A sophisticated client will understand that.
- Jon: Our clients don't understand that.
- Mike: We have a platform that we build on. Our clients ask us about our software if we go out of business, so we leave our source code in escrow with our lawyer.
Jon: Software is a value basis, not a cost basis.
Mike: If I flip it around and someone came to me. Ultimately your clients are investing in you. You can have the value of what I'm building as a fixed rate, and I'm taking the risk.
Jon: This isn't really about ROI - this issue really comes up at the edges. Because we pride ourselves on being faster and more nimble, we are now being punished because we can't charge us much for it. How do we overcome that?
- Rob: In law, something that some people do is ask for a success fee based on the success of the mandate. You see that in litigation.
- Chris: My clients come to me to ask me to make a change to their application and I can make that change in 15 minutes and it will save the client thousands but I can only charge for 15 minutes.
- Jason: It's like an arms race - if everyone tries to get faster and more efficient then we all end up charging less.
- Rob: There's an intangible aspect to design - if you're good then people will charge more.
- Jon: Withihn our level I think that our competitors all deliver equivalent value so people choose for a supplier for a different reason.
Deb: What about a surcharge at the beginning of an engagement before you quote?
- Rob: Lawyers do that and clients hate it.
Jay: We do a mixed approach for some activities like identity design ...
- Jon: If Coca Cola comes in, would you charge the same amount as a local architecture firm?
- Jay: No - we charge more because we know they have more money.
- Mike: Our hourly rate goes up over time as we get better but we sometimes lower it for our clients.
- Chris: Why don't clients understand that there's value in working with you over time?
- Jon: We lose some money on the first job because we put more time on to learn about them and that get's easier over time. But if we come in low then we set the tone for all future engagements and it can take years to overcome it.
David: I'm not convinced that the services model grows at all - that's why we end up with 37 Signals.
- Jon: We're getting there too.
- Mike: And with every person you add you add complicated.
Deb: Let's take a step back - what does growing your business mean? It's really about supporting your lifestyle.
- Jon: Some companies will reach a point where they don't need to grow their revenue anymore but we're not there now.
David: What about pure design firms? All they've done is grow their accounts side and add more bodies.
- Jon: We hit our billing capacity every year in terms of reasonable hours. We base on 1500 hours/year/person.
- Deb: That's kind of revolutionary - most software firms have no concept of limiting hours.
- David: If you have 1500 hours a year then it makes sense to get them as early and quick and dirty as you can so that the rest is gravy.
- Rob: 2000 (or up) for associates at big firms.
Rob: What about raising the hourly rate?
- Jon: There's a trend in the services business for clients to evaluate quality of firms based on hourly rates. It's so irrelevent to our business because we just staff more people on the job at a lower rate.

Blended rate: averaged rate of everyone in the company.

Deb: Maybe transparency is an issue? They feel the process is opaque so they don't know what's going on behind the curtain.
- Jon: Do you think we can educate them?
- Jay: No - our clients don't want to be educated. They're too busy doing their jobs.
David: I can walk in and fix a payroll system at $200/hr. because you have to make payroll.
Jon and Mike: When we're quoting on a job then we plug the numbers into a spreadsheet and a number comes out the bottom and then we have to make a business decision about whether the client will pay that or we have to discount.
Rob: You have propiertary workflows and systems and so you should answer that blended rate is not a valid measure. You should say that you'll tell them how much and it will cost and do it in half the time and you'll be laughing. It's more of a sales issue.
- Mike: This is the old story about "But it only took you three hours!" "No, it took us 30 years." [Untrusted Source for Story
- Jon: We've started focusing on clients that appreciate that value - who value design as a core corporate value. They're sick and tired of the big, independent models and they want small and nimble firms.
- Deb: That nimbleness comes from having a team in place vs. pulling in subcontractors.
- David: Clients put value on what we do, just not in proportion to what we think it's worth.
Jon: Canadian companies haven't woken up to the reality of Web 2.0 yet and realized that the value has moved up the web stack to the presentation layer. They're still buying Sun servers and Cisco load balancers.
- David: The BarCamp movement is like 100 people in the city compared to clients who have no idea.
Jason: This is the nature of the web business - there's no bar to entry in the web industry, Lawyers have to go to school for years.
- Jon: I think less and less every year.
- Jay: We still get it sometimes but we don't engage with them.
- Jon: You move up the scale - when you charge $200k then you get the guys down the street who charge $20k taking your jobs.
- Mike: A lot of our clients have been burned in the past.
- Jason: It's the 80/20 rule - 80% are doing the bad work out there.
Deb: Let me tell you about the Agile model: Your first contract is for a five day 'engagement' or 'discovery' 5 day phase. It includes developers, business people, and everyone up the ladder at the client. The goal is discovery and an iteration, preferably a small one. The objective is to figure out if everyone is engaged. The client gives you a 'backlog of work' - we want these 10 things - and you say we can give you 3 things in the timeline.
- Mike: We break it into parts too. We do an Architecture document first. We take their RFP and we give them an estimate (not a quote!). Then we do an Architecture and Design Document (A&DD) and a quote and we get paid for it. The quote is final after that point. It adds a lot of confidence in our abilities.
- Deb: Dialogue is key.
- Jon: That works really well on the web app/large site build part of the business. On a marketing campaign or a banner campaign it falls apart. The value is the idea of the campaign, not the execution. It's a very variable thing - clients may not love it right away.
- Jason: I don't want to spend so much time on estimates that we lose a lot of money if we don't get the job.
- Deb: That's why Agile is different. We estimate all the way down the stack for a few of the items off their backlog. Clients will start dispensing with tasks when they see their costs.
- Mike: What would be the smallest item you'd do?
- Deb: Login as a complete story. Enter your account number and see your list of accounts is a story.
- David: It's a great way to run your practice but a horrible way to do your budget. The problem is when it goes wrong - it's very hard to manage sales pipes in the iterative model when it's spikes and valleys.
- Deb: You have to factor in the down times.
- Jon: You can forcast out your year based on the invariability and some guys may sit on the bench for a few weeks and work 60 hour weeks after.
Mike: If I go into a client, I can't sell them on a login screen. You have to sell them on the whole site and then cost parts out.
- Deb: Part of the discovery phase is building that backlog and then costing it out. I have to convince clients that what they want now isn't what they'll want in 3 months from now.
- Jon: We fail when we get an RFP from a purchasing group. They're looking for very quanitfiable things that they can go down a list and do checkmarks. We know we're not going to win them because they're looking for a traditional ad agency and we're not one and we don't want to be one. Ted Williams (most homeruns in a year until Maguire beat him a few years ago) with a square showing his batting average at different points in the square. You have to know your square and where you hit homeruns.
Jay: We find that clients with small budgets have the same number of problems and complaints as clients with big budgets so it's not worth it.
- Rob: It's exactly the same in law.
- Jason: I know a financial advisor who ranks his clients into Platinum, Gold, and Silver levels. Every year he tells the bottom 10% (measured by amount they have invested) that they either need to invest more or he fires them. And he retains about 7-8% of them who love his service and bring him money that they had elsewhere and the rest were just wasting his time.
- Jon: We're not in the same boat really - when a projects done then we're finished with them whereas a financial advisor is always working for everyone.
- Mike: As you grow, entropy increases as you grow larger so huge firms that 'won't get out of bed for less than $200k' have more overhead.
Mike: There's a dentist in Australia who did what every other dentist does. He hated his job because of all the clients who hated coming to the dentist and cancelled and complained. He fired the clients he hated and kept the ones he liked and he asked them what they wanted out of the experience. He changed the decor, pumped the smell of baked goods into the waiting room, offered 30 types of tea, added headphones to the chair, etc. He charges a premium for the service and he loves his job again. How do we apply it?
- Jon: We've engineered our user experience of being a client of teehan+lax. If you've ever bought anything at Tiffany's it's the most amazing experience. What are those small things that make clients feel they're having a premium service? We make our documents present really well and that it looks like we spent a lot of time on it. And we hear that a lot.
- Deb: That's a lot about hiring. You have to hire welll to get to that point.
David: My wife is an optometrist and we focus on the physical aspect of the full experience of what it's like to come in the door and do your exam and come back to pick them up. People pay when they come in for the exam so that they're all excited about their glasses when they come back and we don't talk about money. We conciously go after young, urban professionals who will buy glasses, contacts, and sunglasses.
- Deb: That's transparency.
Jon: Does everyone know what their best customers look like?
- Jon: We've learned what clients are prepared to pay in terms of 'fair market value'. So it's not about picking clients we can charge more to. We look for organizations where design is a core value, for a compact team of people to work with and we avoid multiple levels of hierarchy, for projects that are in the six week - 90 day time frame, and who are the other existing suppliers. And also a personality fit. We've talked to Bell maybe 15 times and we've never managed to get all those things to line up so we've never worked with them. Everyone in the ad agency is talking about Zig and Molson. They got voted the worst campaign of the year after that because they got the wrong client who was way to big and it's killing them.
Mike: It's about learning to say no.