I was recently asked what I thought about value pricing as it relates to professional services firms. The billable hour is typically how firms price their engagements, but the idea of value pricing is gaining momentum and acceptance is growing.
I believe in a competitive market, value pricing would occur naturally. Misinformation from vested interests in the status quo and professional inertia are slowing the evolution of the audit market into one priced on value.
That being said, value pricing is the only way a product like an audit should be priced.
When I’m truly creating value, it doesn’t occur according to the clock. I’m not necessarily in “value production mode†from 9AM to 5PM, Monday to Friday. Eureka moments occur in the middle of the night when I’m getting a glass of water, or when I’m shampooing my hair in the morning.
They follow no schedule, and they take no time to create. They are split-second flashes of inspiration that can transform the quality of an audit, but for which the widely used time-based model attaches no value.
Further, the value of individual audit tests stems from the design of the test, which may take time but certainly isn’t defined by it. Actually performing the test will take time but it is only worth the results it provides. A five hour test may be better than one that takes an hour, but there are no guarantees.
The greatest advantage for firms is growth through retaining current clients and earning new ones through referrals. But a secondary incentive will be growth by retaining the best staff and motivating them to develop professionally and build strengths they’re passionate about into niches.
Value pricing for clients is one thing, but firms will need to push to establish its concepts within an existing culture. There is still a strong belief that hours worked equals audit “productionâ€. The firm that is value priced both externally and internally will get the most out of it.
I have read quite a few articles and posts regarding the value pricing model as opposed to the billable hours model. Currently, firms using the billable hours model often evaluate their staff on number of hours billed (probably more than on qualitative issues such as client service or professional development) because as accountants we like to measure things that are quantifiable. If a firm moves to a value price model, is there really a model of productivity for the staff (or a time budget for a project even) if billable hours are no longer relevant?
There’s always going to be a time-based method of cost estimation for engagements, simply because staff are paid an annual salary.
I think a firm isn’t going to do very well at attracting and retaining top performers if they don’t begin to give more weight to the factors you mentioned – client service and professional development – and less weight to hours billed.
If a firm stops charging clients by the hour, it ceases to make sense ranking employees in terms of hours billed to specific engagements. The employee that bills more time is less efficient, and that’s true already, regardless of how you price.
As for setting budgets for engagements, well that’s easy. What’s the desired margin on jobs in the firm? What’s the price of the engagement to the client?
If the firm is no longer billing by the hour, then your hourly billing rate is irrelevant, and the only relevant rate is the actual cost of your time (direct labor input). However, do we see your time as a variable cost or a fixed cost? If we use a time estimation for a costing budget, then we are treating your time as a variable cost, not as a fixed cost (the firms pays you whether you are charging hours to the client or not, and if you are on a straight salary, there is no variance in your cost).
Our product (client services) should not be priced based on cost plus anyway (this doesn’t have any relevance on value to the client) but based on value.
If we are creating true value for clients, they will be willing to pay a premium price for our service just as we pay a premium for brands that have greater value. This gets us away from cost plus pricing into value pricing, which is the far more profitable way to price. Cost plus only seems appropriate for merchandise that is (or is nearly) a commodity in nature.
If we see our services to clients as a commodity that clients can obtain equally elsewhere (because the work we are doing is for regulatory purposes and they just need an OK from somebody) then we do not understand what we are doing and we do not value our professional skills properly. Nobody is ever going to pay you more than you think you’re worth (and never ever more than you ask).