Is Value Based Pricing Right for your Agency?
Setting prices according to the value you are providing to your clients can boost your profit margin and improve the quality of your agency’s work.
By definition, “Value-based price (also value optimized pricing) is a pricing strategy which sets prices primarily, but not exclusively, according to the perceived or estimated value of a product or service to the customer rather than according to the cost of the product or historical prices. Where it is successfully used, it will improve profitability through generating higher prices without impacting greatly on sales volumes.”
In other words, value-based pricing is driven by what the client perceives to be valuable or important.
Value-based vs Cost Pricing
Cost pricing is a simple formula (costs + margin = price). For agencies, costs usually include hourly rates plus other costs such as outside vendors and materials. Margins can be a percentage or fixed amount. Value-based pricing is more of an art that requires research, communication and negotiation. But it can pay off for your agency. If your service or deliverable will increase the client’s revenue, you can leverage the increase and capture some of the profit for your agency.
For example, if it costs your agency $7,000 to build an e-commerce website, and you use cost pricing to arrive at $10,000, you’ve made a $3,000 profit. Say the client’s goal is to make $1 million from the website; they will have enjoyed a 100X return on the $10,000 investment when they reach that goal.
Let's try doubling the billing amount using value-based pricing. If the client were billed $20,000, they would see a 50X return on the investment. Since costs would remain the same, your agency would make a profit of $13,000. If you billed $50,000, the result would be a respectable 20X return on the investment and your agency would make a profit of $43,000. Higher profit margins are a good incentive to deliver the best quality work.
What about the competition?
Understand your own worth. What do you bring to the table that differentiates you from the competition? Is your creative product cutting edge? Do you offer premium service? In order to offer extra value, you must sell the idea that investing with you means lower risk and higher quality than the competition. You and your client must have a shared vision of the success your agency can help them achieve.
If a client always chooses the lowest price, they are less concerned with quality and value. Often, they are the ones who question every cost or “nickel and dime” you. If that is the kind of client you want, then value-pricing is not the answer for you (at least when pricing for that client). Successfully implementing value-based pricing can improve the quality of your clients as well as the quality of work.
Does that mean I wouldn’t need an estimate or time tracking?
Estimating and time tracking are still best practices, even with value-based pricing. An internal estimate (not presented to the client) will establish a benchmark for expected costs. It will also ensure that costs do not exceed the value-based price. Time tracking will provide data on actual costs incurred and can be compared to the estimate. Measuring employee hours is also necessary to calculate utilization and productivity.
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