Ninety-one percent of marketing teams have taken some or all of their digital marketing operations in-house, according to a 2019 study from Bannerflow and Digiday. Clients are tired of the opaqueness and unpredictability in the traditional agency pricing model: The billable hour.
You know why you need to ditch the billable hour to regain client trust, but what should you adopt in its place?
The best alternative is a value-based pricing model, which bases prices on the perceived value to the procurer. This client-centric approach to pricing enables your agency to be more competitive and, according to experts like PR 20/20 CEO Paul Roetzer and Rice University marketing professor Utpal M. Dholakia, has a positive impact on the agency’s bottom line in the long run.
Still, even though the value-based pricing model has benefits, many agencies are afraid to transition. They fear that without the billable hour, projects will spiral beyond their scope and result in lost revenue. Those concerns aren’t without merit, but agencies are already losing out to in-house resources and value-based pricing provides a mutually beneficial solution that can boost both client ROI and agency profits.
Set competitive prices that protect your bottom line
Setting value-based pricing doesn't mean shortchanging yourself. The point is to be more transparent and fair, but you should still account for every resource you invest in doing the work.
Calculating the prices you should charge clients doesn’t need to be any more difficult than defining the scope of work for a new client. There is a bit of guesswork involved, but your estimations will typically be based on data you can easily access.
We broke the process down into three simple steps by consolidating recommendations from Roetzer’s book, The Marketing Agency Blueprint, and Dholakia’s pricing guide in Harvard Business Review:
Define the parameters of a product or service
Calculate your breakeven cost
Mark up that price based on the value it provides the client
Keep in mind as you read, however, that pricing strategies are malleable. You may find yourself bidding for larger-scale, longer-term projects, where it would be worth lowering your prices if it’s essential for closing the deal. Offer discounts where it makes sense, particularly as an introduction to your services.
Define the parameters of your service offerings
Before you get started, think about what your clients should expect from your menu of services. Outlining the full scope of your services will help you better understand how much work will go into each so that you can calculate the right price. This exercise also sets clear expectations for clients; they know upfront what they’re paying for, and you can easily rein in client demands if they go beyond the scope.
Keep in mind while you’re drafting your standard service offerings that clients often change their minds. Be sure to plan for rounds of revisions or any extra work that might pop up. You should also put time frames in place to protect yourself against client delays.
Here’s an example of a project scope for a blog post:
BLOG POST
Includes the following prep work: ideation, topic research, and one SME interview.
Article will be 1,000-1,200 words in length and will include an introduction, supporting arguments and a conclusion.
Article will be SEO-optimized and will include the keyword in the title, headers and article body.
The agency will also complete one round of revisions if requested within 30 days of delivery.
This project description lets clients know exactly what prep work your agency will perform for the project and the expected length and content of the project. It also clarifies how many rounds of revisions the client can request and how long the client has to request those revisions. This clause requires the client to consolidate their feedback and request revisions all at once rather than submitting it piecemeal from various SMEs. The client also submits their feedback in a timely manner, so your team can move on to new client projects, and you never have to circle back months later to an old client project. That’s one massive benefit of the value-based pricing model: By building inefficiencies into your costs, you can minimize cost overruns without frustrating your clients.
Calculate your break-even cost for each offering
Once the parameters of your service offering are defined, calculate the cost to your agency of performing that service. This won’t be the final price you charge clients; it’s just a baseline. Knowing this number ensures you don’t lose money on a service and that you have a benchmark on which you can build.
Labor costs will be your steepest expense. You’ll need two numbers to determine this cost: Your employees’ price per hour—what Roetzer calls the “hourly revenue target”—and the number of hours your team has historically spent on a particular service offering. With these two numbers, you can make a strong estimate of how much the service offering will cost the agency to perform.
For example, you might find a blog post takes your team on average 10 hours to complete. Seven of these hours are spent by a writer with a salary of $55,000 per year; another hour is spent by an editor with a salary of $60,000 per year; and the remaining two hours are spent by a researcher and project manager both with salaries of $50,000 per year. Assuming that each of your employees spends 30 hours per week on client work for 48 weeks a year, their hourly revenue targets would be:
Writer: $55,000 / 48 weeks / 30 hours = $38.20 per hour
Editor: $60,000 / 48 / 30 = $41.67 per hour
Project Manager and Researcher: $50,000 / 48 /30 = $34.72 per hour
Multiply each employee’s hourly revenue target by the number of hours they work on a project to calculate the raw labor cost to your agency of writing a blog post. In this case, that would be: $38.20 (7) + $41.67(1) + $34.72 (2) = $378.51.
Labor, however, isn’t the only cost you need to consider. You also need to account for additional overhead costs such as accounting, insurance, rent, technology costs, etc. Divide these costs across the number of customers you expect to serve in a year and include that number in your fees.
Mark up that price based on the value the service provides the client
Now you know the very minimum cost you need to charge clients to break even. But, like any company, you need some percentage of profit margin. For most agencies, that’s likely somewhere in the 15% to 50% range. Where you fall on this spectrum likely depends on how valuable your work is to your customers.
Start by considering the ROI your blog post would have for a client. If it meets its goals—whether that’s brand awareness, conversion, or landing on the first page of search results—how much would that be worth? For a blog post, it’s probably well over $1,000.
If calculating returns feels like too much of a shot in the dark, perform a market analysis to find out what competitors are charging. Compare your differentiated value—whether that’s better writers, more experienced SEO experts—to the next best alternative. Charge slightly more than they are charging, and be prepared to justify the difference in your prices by proving your superior quality.
If your competitors are charging between $800 and $1,400, determine where you fit in among them. Just keep in mind that you will need to be realistic in order to be competitive and win over new clients.
Gradually move clients to the value-based model
Because pricing models are dependent on estimations, you should test your prices before scaling. Test the value-based model on a new client, and pay close attention to your actual versus predicted profits. If you aren’t profiting as much as you expected, modify your prices before quoting them to another client. Repeat this process if necessary until your predicted and actual profits match up.
Then, move existing clients over to the new model one by one. Bear in mind that some clients might resist the change. Legacy organizations, for example, may be beholden to rules set by their accounting teams and therefore obligated to pay you by the hour. You will need to decide in advance if it makes sense for your agency to accommodate these requests and be flexible for a single client. Weigh the options, and prepare a response for these hypothetical scenarios before alerting your clients of the change.
As an agency, it’s your job to help clients transform their businesses according to consumer trends. But agencies need to evolve as well, and value-based pricing is the next progression in how agencies provide value to their clients while still prioritizing efficiencies and maximizing returns. Next up: How to get more recurring revenue for your agency.
Gal Zohar
Outbound & Product Marketing Manager
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