The benefits of value-based pricing
New processes let you use value-based pricing to turn efficient working into higher revenues. Find out how it works.
Making the work worthwhile
The way your accounting firm bills for its time has a direct effect on its revenue. It also affects the morale of your people, your ability to grow and your relationship with your customers.
In fact it's surprising how much of an influence your billing strategy actually has. It directly influences the profitability of your firm – now and in the future.
Unfortunately, many firms are stuck in a billing rut. They charge their clients on the same basis that they always have done. In fact it's the same basis on which accounting firms have been charging their clients for decades.
But that's now changing. New ideas, new practices and new technology are making new ways of billing more attractive. In this guide we'll look at how value pricing, sometimes called value-based pricing, can revolutionize the way you engage with your clients.
Different ways of billing
- Hourly-based billing: The firm charges a set rate per hour for services. This is the traditional billing method for many accounting firms.
- Cost plus pricing: The firm charges the cost of performing a service, plus a markup or profit margin. This type of billing is often used when technology is involved. The firm will use the technology on the client’s behalf, and charge a fee for doing so.
- Fixed pricing: The firm charges a fixed cost for a specific service. The cost stays the same regardless of the amount of time taken to perform the task.
- Value billing: The firm charges for its perceived value of the service, after the work has been completed.
- Value pricing: The firm charges for the customer’s perceived value of a service, with the price being set before work begins.
What's wrong with hourly billing?
Hourly-based billing is still the most common form of billing used by accounting firms. One of the reasons for that is simple inertia. “It's always been done this way, so that's the way we do it.”
This cycle can be hard to break. Even smaller, more agile firms find it hard to do anything but follow the lead of larger firms that use hourly-based billing.
But this is changing. Technology and new business practices are making hourly billing less attractive. Here's what's wrong with hourly billing:
- The faster you work, the lower your income: Your clients will love your increased efficiency, but you won't be able to charge them as much as you did before. You'll be billing fewer hours for the same amount of work. That destroys any incentive to improve your business processes.
- Clients will shop around for the lowest rate: When there's no other way to easily determine value, your prospects will simply try to find the lowest hourly rate. It makes sense for them to do this, since they have no other information with which to make a decision. But it forces you to compete on price alone.
- It's hard to raise rates: Even if you make dramatic improvements to the service you offer, raising prices will be hard to do. You are tied to wider economic factors such as inflation and GDP growth. It's hard to justify increasing your rates simply on the basis that you've done a really good job for a customer. Even if you do, there's a chance you'll be considered greedy by the client – which may encourage them to move elsewhere.
- Skills are disconnected from rates: In most other professions, learning new skills means higher compensation. This means you can charge more for your knowledge. In accounting that's much harder to do. So there's less incentive for accountants to learn new skills that will help their clients.
- Revenue is limited by time: If you're earning a fixed amount per hour and you're working a set number of hours per week, that limits your revenue. This makes it hard to grow your business.
- You don't know your value: What are your services actually worth? Which client services are especially valuable? If you're billing by the hour, you'll never know for sure.
What is value-based pricing?
Value pricing means grouping services into bundles for which you charge a set amount. The price is fixed up front. This means your clients know what they will be paying – and you know what you'll be getting in return.
Although this is a relatively new idea for accounting firms, it's normal elsewhere. Bundle value pricing is used by internet providers, smartphone subscriptions and online software companies. That's helping it become more acceptable in accounting too.
Value pricing lets you decouple the cost of your services from the time taken to provide them. This means you have an incentive to improve the efficiency of your business.
The benefits of value pricing
Value pricing can free your firm from the constraints of hourly-based billing. Here's how:
- It separates time from profit: Your potential profit is no longer connected directly to the number of hours you work.
- It gives you and your people the incentive to improve efficiency and productivity: It directly rewards you when you learn new skills or simply work in a more intelligent way.
- It helps you attract and retain talented employees: Employees are usually happiest when doing work that makes the client happy and earns money for the business. Value pricing offers that – hourly billing usually doesn't. So value pricing helps stop talented people moving on to more exciting opportunities.
- It reduces client shocks: Clients can feel ripped off when they receive accounting bills. It's because they don't understand the amount of work involved. That's especially true when businesses do their own books and only pass the ledger to their accountant once a year. Value pricing gives the client a fixed price upfront, so there are no surprises.
- It improves collaboration: Clients who know how much they'll be charged in advance are more likely to communicate better with you. This improves collaboration and helps you do your job – which helps keep the client satisfied. It also helps you up-sell your other services.
Five steps to value pricing
You can't simply switch from hourly billing overnight. Value pricing isn't just a new way of charging your clients. It's a new way of thinking about the services you offer. It's about changing how your firm does business. Here are some ideas to get you started.
1. Manage client expectations
There will be changes in what you do for your clients – and in what they do for you. Have these discussions early and in detail. You will need to explain carefully how the relationship will change. For example, perhaps they'll have to do weekly bank reconciliation themselves. That way you can be their trusted advisor using up-to-date information. They won't be able to simply dump their books on you once a year. The payback is they'll get a more useful service from you.
2. Change your firm's mindset
It's not enough for the people at the top to embrace change. As an owner or partner you'll understand the need to bring in value-based pricing. Your employees may not, so you must educate them and explain the benefits. This is especially true for customer-facing employees.
3. Overhaul your processes
From the conversations you have with new business prospects to the way you track work time, there will be a lot of changes. Get help here if you need it. Research how other firms use value pricing, both within the accounting industry and elsewhere. Start small – perhaps with just a few clients – and build up once the processes have been properly established.
4. Make use of new technology
Cloud accounting software, which you can access online, is a big driver of value-based pricing. This makes it easy to collaborate with clients remotely and access accounting data from anywhere and at any time. It also reduces your overheads, by automating repetitive tasks such as reconciliation. Plus it cuts your IT costs, since upgrades and backups are handled for you. To make the most of value-based pricing you'll need good, scalable cloud accounting software.
5. Be patient!
The transition won't happen overnight. There will be setbacks along the way, but you'll learn from them. Make adjustments and tweaks as you go along, and as your firm changes over time.
Value pricing liberates your firm – and your people
Value-based pricing lets you expand your services and increases your engagement with your clients. It allows you to increase your revenue in new and efficient ways.
Just as importantly, it liberates your employees to work more creatively, constructively and productively. They'll know that they – and the firm – will be rewarded for this intelligent approach to work.
As a result you're more likely to hold onto your most talented employees. This alone will help your business grow. And then there's the benefit to your clients. Instead of being a service provider on an hourly rate, you can become their trusted advisor.
Value pricing lets you use your firm's wealth of knowledge and experience to guide your clients' business decisions. And you'll be compensated well for doing so.
Xero does not provide accounting, tax, business or legal advice. This guide has been provided for information purposes only. You should consult your own professional advisors for advice directly relating to your business or before taking action in relation to any of the content provided.
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