Why Value-based Fees?
This short article explains the reasoning behind why we have adopted the value-based fee approach, why we feel it’s more ethical than time-based billing and why we feel it significantly benefits our clients.
We define value-based fees when a project fee is fixed price and based only on the value it creates for customers. In no way is the price based on the time it takes to complete.
The objective is to create a situation where the customer feels they have a bargain and the consultant gets fees equitable to their contribution to the creation of the value the project generates.
Value based approach creates shared success.
Traditional time-based contracts are popular because they are easy to account for. They are however fundamentally flawed on a number of dimensions as they establish a ‘them and us’ tension due to mis-alignment of objectives.
The most obvious reason, the ‘elephant in the room’ as it were, is that there is no incentive for a consultant to work very quickly. If they work slower then they get higher fees!
Every client I have ever met is in a rush to get their project delivered as quickly as possible.
… the goal of a consulting intervention is to improve the client’s condition by meeting or exceeding mutually established project goals that are expressed as business outcomes. If those goals and outcomes are thus met or bettered, the resultant improvements will justify any reasonable investment required to achieve that particular return.
Alan Weiss – 2008
Clients are well aware of their budget to get a project delivered but also the significant costs in both time and money of project overruns and delays. Time-based contracts simply don’t incentivise the outsourced help to work flat out to get things done quickly. These types of contract also fail to focus on the likely outcomes of the project for the client. They rather focus on the delivery of tasks with the vague hope that these will make a lasting difference.
It is the outcome that matters, not the tasks, that matter.
I actually see this as going further and even question the ethical issues with time based contracts. For example, I have a client who asked me to travel to a meeting at the other end of the country. It was a full day of my time, however, the meeting only lasted 1.5hrs.
So what should I have charged him?
Ok, the travel expenses are straight forward. But what about for my time?
After all, he really only got 1.5hrs of value-added time during the meeting. The 6/7 hours of travelling really offered no benefit to the client at all. How can it be right that I bill for that travel time? Equally, I have taken a day out where I could have been working on other things.
I am therefore left with the choice of either billing for all or some of the travel time, or, swallowing the travel time myself and possibly feeling hard done by.
During the meeting we decided that we needed to get together with a third party to progress the situation at hand. This was unexpected.
So the next choice for the client is should I be involved? This would be an extra day that was not anticipated at the outset. My attendance would benefit the meeting so what does the client decide to do?
The issue I have with a time based contract is that the client, consciously or not, has to constantly evaluate their return on investment of my involvement; if I attend then it will exceed the budget, if I don’t then the project will suffer.
With a value-based contract, by contrast, we can both decide based simply on the value I would add – the project fees remain unaffected.
The questions always focus on how to deliver the outcomes and not constantly about managing allocation of time and budget.
It is probably worth discussing quickly the distinction between this and a traditional fixed price contract. With a traditional fixed price contract, the fee is typically estimated by the consultant determining how many hours / days they anticipate a series of activities will take to deliver what their client wants. There is typically a ‘contingency’ added to this estimate, to account for ‘scope drift’ during the project.
What this method fails to account for is that the value created for the client may not warrant their proposed approach. It is therefore quite possible that this ‘cost plus’ method of project pricing will be expensive for the client.
Furthermore, with a fixed price contract a consultant is very reluctant to deviate from their original project plan, in case they run out of contingency or don’t complete the deliverables which trigger their payments. This is understandable from their perspective, however, often the best course of action for a client project evolves during a project.
Fixed price contracts leave little room to change scope once underway. Therefore this again puts the client in a dilemma about what to do. Often there is little they can do and consequently may end up with a project that fails to meet their needs.
The value-based fee approach is distinct here because there is room to adapt the specific approach taken. The focus is always on delivering the objectives against a mutually agreed set of measures of success. This pragmatic approach ensures the client always achieves their project goals, for a fixed price they know from the start.
So what is ‘value’ anyway? If you’re interested to read my thoughts on this, I
will be have posted an article defining this, with some examples, soon Linked here.
In the meantime, I would welcome your questions or thoughts directly. Drop me a note.