Rebelling Against Billable Time
LinkedIn Article by Tim Williams
March 14, 2016
Since the turn of the century, a global pricing revolution has been underway. Companies of all stripes now employ not just finance professionals who calculate the cost of products and services, but also pricing professionals who know how to determine the value.
That is, everywhere except in professional services. Somehow, the one industry that's almost pure knowledge work is largely stuck in a paradigm of selling the hours they work (costs) instead of the value they create (value). Bottled water is priced based on perceived customer value, but not marketing consultation.
The pricing revolution in most industries has been powered by innovations like dynamic pricing, bundled pricing, subscription pricing, and "use now, pay later" strategies that characterize the business models of many successful startups. Pricing experimentation has helped return airlines to profitability, enabled entire new business memes like the sharing economy (think Uber and Airbnb), and spawned new industries like programmatic media buying, which is fueled by real-time pricing. Large swaths of the software industry thrive on "freemium" pricing, as chronicled by economist and former Wired editor Chris Anderson in "Free: The Past and Future of Radical Price."
But the majority of companies whose inventory is intellectual capital — law firms, accounting firms, marketing firms, and consultancies of all kinds — still take their cues from the long-disproven "Labor Theory of Value" championed by the likes of Karl Marx. Will these firms ever join the pricing revolution, or are they destined to be left behind in the uninspiring and increasingly unprofitable world of hourly billing?
KNOWLEDGE WORKERS UNITE!
Fortunately, a new ideology is emerging among a new class of progressive advertising agencies, law firms, IT consultancies, and other firms with professional workforces. This tour de force is being driven first and foremost by clients of these organizations who are demanding more sensible and accountable ways to buy professional services. In the marketing world, industry bodies like the Institute of Practitioners in Advertising (IPA) in the U.K. are actively advocating for a new pricing paradigm. A survey of global marketers conducted by the U.S.-based Association of National Advertisers (ANA) recently revealed that almost two-thirds of these companies intend to change the compensation agreements they have with their advertising agencies. Their motivation? Not to save money, but to "improve business results." Astute marketers are waking up to the realization that paying agencies for their time does little to align the economic interests of buyer and seller.
The other driving force is continued pressure on margins, especially in the world of marketing services, where average profits have been steadily declining since the days of Mad Men. An average profit margin of 30% in the days of Don Draper is now just above 10%, and the downward trend continues. These mounting profit challenges mean agencies are struggling to attract, cultivate, and keep top talent, the seed corn of professional knowledge firms. (By the way, agencies of the Mad Men era did not bill by the hour.)
The burgeoning pricing revolution in professional services is not coup d’état as much as it is a coup de tête — a slap-to-the-head realization that no reasonable client wants to buy inputs; they want to buy outputs and outcomes. Not efforts and activities, but deliverables and results.
SELLERS, NOT BUYERS, CHANGE PRICING
After decades of teaching their clients to buy the firm's costs in the form of hourly rates, PSFs (professional services firms) are bemoaning the fact that procurement is now brought in to strong arm them, as if one firm's knowledge, talent and expertise is as good as another's and the goal is just to get the lowest price. Why do buyers of professional services "procure" knowledge work in the same way they buy office supplies? Because PSFs taught them to, by treating their firms' inventory of intellectual capital as a bank of units of time that can be bought and sold like raw materials in a manufacturing process.
So now it's time to teach the purchasers of professional services a different, better way. It is, after all, the job of the seller — not the buyer — to change and innovate its pricing. Industries large and small re-educate buyers all the time. Adobe used to charge a fixed price for a shrink-wrapped box containing a disk. Now they're re-educating their customers to buy subscriptions to their software. The hotels have taught us to buy early and buy online as part of their immensely effect adaptive capacity pricing model.
The pricing reformation in pricing professional services will not come from an association or industry body. Transformative change never comes from the top down, but rather from individual firms who show there's a better way — companies such as Anomaly, Tomorro, CP+B, Carbone Smolan, Mosaic, Golin, UM, and many others ranging from mid-size independents to multinational networks.
The firms that show the initiative and charge for the value they create rather than the hours they work are becoming increasingly attractive to a client community that is under ever-rising pressure to show better returns on their investments.