The RFP (request for proposal) has come in, and it’s right up your alley. You’ve got the perfect team to design and deliver for the prospect, and you have a great relationship with the client company. You call a proposal meeting, and all the right technical and sales people are there. As you’re all stepping through the RFP, your team gets more and more excited. “We can win this!” the sales team shouts. “We can deliver this better than anyone!” the technical team yells. Then you get to the pricing section, and read the dreaded paragraph:
“All pricing must be submitted in the form of an all-inclusive fixed price, including all hardware, software, project management, services, support, and any other components required to deliver the functionality described in this RFP.”
“%*&!#$!” yells the sales team.
“Expletive deleted!” shouts the technical team.
Why are fixed prices so challenging for IT professional services firms? To broaden the question a bit, what pricing strategies should IT consultants and firms apply and in what circumstances, and how can we ensure that we’re serving ourselves and our customers well while remaining competitive? Let’s first review the different kinds of pricing plans that IT consultants typically offer to our clients, and then let’s analyze each a bit to dig into the complexities, dangers, and advantages of each.
The types of pricing most often offered are:
- Time and materials: We quote a price-per-hour for the resources we’ll apply to the job and a materials list for the products and consumables we’ll need, and the client pays for however much time and materials we expend to deliver the scope of work.
- Retainer: We agree to be available for some set number of hours per month at an agreed-upon rate, and to do whatever IT work the client asks of us within that time period.
- “Not to exceed” price: We present the client with a budget for the scope of work, typically with a low-end, middle, and high-end estimate, and agree that, even if we exceed the estimate, the client doesn’t pay more than the “Not to exceed” price.
- Fixed price: This is a guaranteed price at which we agree to deliver the complete scope of work.
- Phased pricing: We provide an estimate or a fixed price for a specific phase of the project only, such as the requirements definition phase, and agree to provide subsequent bids for the remaining phases once they are more clearly defined.
- Performance-based pricing: This is pricing in which the consultant can earn premium compensation based on the achievement of preset goals such as functionality, timeliness, or quality.
- Equity pricing: Many startups are short on cash, but long on options or warrants that represent equity ownership of the company. Some Internet consultants will now negotiate for a piece of the client’s company in lieu of cash payment.
Before we review pricing options, I want to offer one overriding warning to consultants, no matter how you price deals, be absolutely explicit when you present prices to clients. Clients hear and remember prices “through a glass darkly,” hearing the cost but never the contingencies or variables. If what you’re presenting is an estimate that could change based on what you learn during the engagement, say so. Then document that discussion, and get the client to sign off on the document. Nothing poisons client relationships more quickly and irrevocably than misunderstandings about pricing.
Time and materials
Many consultants believe time-and-materials projects are the only type worth taking, and that any consultants who consider fixed price deals should have their heads examined. The justifications for this view are persuasive. How can we bid a price for a project before we do the analysis and due diligence required to see what it will take to deliver? Why, that’s like asking a doctor to tell us what it’s going to cost for us to get well, before he does his diagnosis!
The problem with this view is that in a business dependent on the goodwill and trust of the client, time-and-materials pricing instead creates mistrust, paranoia, and unproductive ‘cover-your-rear’ activities for the consultant and ‘check the bill’ activities for the client. Clients invariably feel exposed and unprotected by an unadulterated time-and-materials scenario, and tend to get more focused on the price tag than on the important issues of feature, scope, quality, and schedule. While time-and-materials projects may provide the most protection for consultants’ income, they provide the least comfort for clients, an issue we need to be concerned about if we are at all customer-focused.
To make clients feel more comfortable with time-and-materials projects, I build in “assurance factors.” I never start a project without a documented project plan, scope document, schedule, and budget estimate. (I make sure the client understands that an estimate is not a fixed bid, going so far as to actually print a disclaimer on the document itself.) I clearly state the services I’ll perform, including:
- A project review with the client every two weeks, or every week, or every day, if that’s what the client needs so she can relax and focus on the project deliverables.
- Strict records of her project expenditures to date, and a report at every review meeting.
- Flexibility throughout the project, so that if we start to go over budget, I’ll work with her to decide how to handle that, whether it means cutting back on features, having her team take on more of the work, slowing down, or speeding up.
I build these assurances into my letter of agreement, and then I live up to them. There’s no better cure for client paranoia than consultants who say they’ll do something, and then do it.
The retainer pricing scheme can be a win-win, giving the consultant a guaranteed income over the period of the agreement, and giving the client guaranteed access to the IT expertise and services she needs. In return for the guaranteed income, consultants can often give clients favorable prices, thus making the deal even more attractive and cementing the relationship further. This scheme usually works best when the client needs routine maintenance or tuning services, or is using the consultant to perform administrative tasks such as network administration or moves, adds, and changes.
Such a pricing scheme works less well when the client needs a project delivered within a schedule, as these arrangements rarely lock down the correct amount of time for urgent projects, and most projects benefit from concentrated focus rather than intermittent attention.
Retainers can come in several flavors. Some consultants, like lawyers, have agreements to be “on call” for a certain fee, and get paid whether or not the client actually uses their services or not. Other retainer arrangements require the consultant to actually work the prescribed hours to get paid. Some deals have elements of both, in which the consultant is the client’s “expert of choice” on a particular technology, and does some maintenance work monthly, and is also available for emergency work as needed.
The key point in these types of arrangements is clarity. It’s your job as the consultant to ensure that there is no misunderstanding about your role. If the client thinks you’ll be available to troubleshoot their e-mail system when it goes down at 4:00 A.M., and that’s not your understanding, damage to the relationship is the inevitable result. If that is part of your agreement, be sure that you have a fool-proof method of performing the service, and that you’re being compensated in a manner that will motivate you to throw off the covers and get to the client’s site.
Next time we’ll look at the risks and rewards of fixed pricing, not-to-exceed pricing, and other, more creative, pricing schemes. Tell us your preferred pricing scheme by posting a comment below or sending us a note.
Rick Freedman is the author of three books on IT consulting, including "The IT Consultant." Rick is an independent consultant and trainer, working, through his company Consulting Strategies Inc., to help agile teams and organizations understand agile practices and migrate successfully.