The price of using a costing model.
Our industry continues to flog a horse called “costing.” It’s a horse you wouldn’t normally back, but collectively we don’t know a way of getting off it in order to jump onto a younger, more nimble foal called “pricing.”
There is a lot to be said (and a lot is said) in support of a pricing approach. However, whilst we all know “what” needs to happen, the challenge is “how” to make it happen.
How do we respond to client procurement teams that insist on using a costing approach? How do we use the right language to present our pricing proposal? How do we persuade clients that it is better for all to be driving value so all parties benefit? How do we train our staff to have a pricing rather than a costing mind set? How do we stop our peers undercutting each other simply to win market share, or take a job at any cost to bring in some cash?
The reality is that we have a history of hourly rates being bought by procurement departments. This is an easy win for them, so if I was in procurement why would I want to change? They continue to be able to set agency against agency with the argument that hourly rates are too high. Marketing teams then chip away at the number of hours to further reduce prices. As data shows, financial returns in our industry have been on the decline for decades as our costing approach continues to allow clients to push down prices. And as profits (profits?) decrease for agencies, there is less to invest in providing clients with the high quality of solutions and services they demand, so clients become less willing to invest in their agencies.
Something clearly needs to change – but how?
There are agencies out there that took a different approach when starting up.
We were clear that in order to not simply become another declining industry statistic, we would need to fundamentally rethink how an agency behaved. This led us to adopt a virtual network model to both widen our talent pool and keep overheads down. It allowed us to rethink our relationships with collaborators in order to boost inspiration, productivity and loyalty. It also grants us the opportunity to reconsider how we charge so that our relationship with clients rebalances to one that is level and fair, with everyone benefiting.
We have recognised that there is a different approach to be taken in how it works with clients. This is the essence of the agency and deeply embedded in the people that created it. Working collaboratively with individuals to create the work is fundamental, and equally is paying them a fair price for the work they do. This mirrors the financial relationship that they have with clients. The outcome should be that everyone succeeds, and none of this is tied to the “timesheet” culture of the wider industry. No timesheets are completed. No hourly rates are quoted.
Instead, the whole raison d’etre is to first drive value from outcomes for the client, then to be paid fairly for this success, and in turn pay its collaborators fairly for their work. This principle flows through the whole business model.
Central to our thinking is the recognition that “ideas” – which are always at the heart of the work – are not slavishly linked to how long they may take to crack, nor should the value of design work be measured on how long it took to create. After all, do you worry about how long a restaurant pizza spent in the oven, or how many hours your iPhone took to build? No – you simply care that it tastes good or works well, happy to pay a price for the value it provides you.
Let’s be honest about this. Whilst marketing departments are under pressure to lower costs, this is only one side of the argument. They are also measured on increasing returns on their investment and driving sales growth. Which path should they take to succeed, as doing both is not possible?
The obvious answer is to drive returns and sales growth. To do that they should be looking to reward our businesses on the value they provide in achieving that success. If it takes the agency less time to get to the answer, then they should still pay the same price – if the solution provided real value. In the same way, if it takes a bit longer, with the scope of work unchanged, then there should be no additional cost. This reflects the fact that the price is based on the outputs and not the inputs.
Ultimately, our current model is fundamentally flawed. It fails because the agency is not paid based on the successful outputs it creates. Instead it simply measures inputs – predominantly the hours worked, and usually these are significantly higher than agreed in the costing to clients. This does not drive financial success for agencies. It is demotivating, and if one is constantly driven down in price, does not allow for profit that can be re-invested in talent and innovation.
So, we all understand the principles of pricing. We agree with the theory and the perceived wisdom of the experts. We all know that people who are great at pricing may not be our current CFO’s. We know that timesheets are dull to complete, are always late (or never completed) and are almost always inaccurate, so how do they even legitimise the costing approach? Yet we plough on believing all of this will somehow lead to a place of success.
The big question is how to change over to what we know is a better model. How do we ultimately change our clients to follow this path, and persuade them that pricing rather than costing will add value? How do we get our own industry to change its habits, collectively, so that we are not working against ourselves and undermining positive change for a quick buck? How do we use language to help support the pricing approach? Approaches that suit our clients to achieve a successful outcome?
That is the challenge, and one that requires loads more thinking, experimentation, and industry body support for pioneers brave enough to find a path for others to follow. Then once the path is clear, everyone following should commit to staying on this path in order to fundamentally change how we earn our fees. Who knows, we may even thrive rather than simply survive.
Published in Media post | 11 December 2017 | Tim Bowman, Non-executive CFO at Brown&co
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