As I work with people developing their portfolio executive workstyle, one of the biggest challenges we come across over and over again is pricing. There are two very different ways of thinking about pricing.
Cost Plus Pricing
The first way is ‘Cost plus’.
People sit down at the beginning of the year and they say I want to earn this amount of money and for me to take that much money out of the business I will incur this amount of costs, will expect to have these numbers of days of fee earning, and therefore I need to charge so much a day. You then need to retain some profit to allow investment back in the business i.e. (Fee Earning Days) * (Day Rate) – (Annual Costs) – (Retained Profit) = (Net Income). You choose a target net income, budget the annual costs and retained profit, estimate the fee earning days and then calculate the necessary day rate.
- Net Income = £120,000
- Retained Profit = £20,000
- Annual Costs = £20,000
- Fee Earning Days = 160
Day rate = £1,000
Value Based Pricing
The second way of pricing is value based pricing. Here you look at what the value of you service is going to be for your client, either in terms of saving money, or making money or reducing some of the risks in their business and how much that might be worth to them. You look at the value you are going to deliver to your client, and you charge something that reflects the value that you are going to make for your client. The biggest challenge with value-based pricing is that value is in the eye of the beholder and the beholder is usually the client. Clients usually prefer to purchase on the basis of cost. They can understand that, it feels transparent, whereas value is much more difficult for them to grasp hold of and often much more difficult to really define. So, clients will often want to default back to cost. They will want to take a view about your day-rate and whether that is a fair cost for you to be charging. So, there is that tension all the time.
Navigating Cost Plus versus Value
My advice to people is you need to evolve a position that the market will bear and will mean that you have the right amount of activity to support your portfolio workstyle.
So how do you do that? Well what I suggest to people is that they start with a lower price than, ideally, they would like to charge, and that price maybe based around what it would cost to hire you as a full-time person then reduced to a pro-rata basis. So, if for example, you are a senior executive and your salary is around £90,000 per year and then you might expect that the business will incur further costs, perhaps another £30,000 a year (Overheads, resources, national insurance, pension, healthcare etc) then you are costing that business as a fulltime person about £10,000 a month. On the basis of 20 days a month then that about £500 a day. So that is a basic cost. If you go into businesses as a £90,000 a year salaried person and you are charging £500 a day then that is only going to work with you if you are working 240 days a year. But anyone running a business has to have some time for finding work and some time for continuing to develop what they do.
So, if you are going to spend a significant proportion of your time in business development then you might end up with a number that was more like £750 a day. As you are testing the market, you might be prepared to do work for £500 a day as an initial discount to get your first work. You pitch to a client that “my normal rate is £750 a day but as you are one of my first clients, and in return for giving me a testimonial if you are satisfied with what I do, I will reduce the rate for the first 6 months to £500 a day.” You are being explicit about a time limited discount and the value you expect for the discount.
Over time, as your confidence grows and you get busier increase both your headline rate and reduce the discount that you offer. You should be looking to achieve a headline rate of £1000 a day and, over time build to £1500 a day. For some particular specialisms, you may be able charge £2000 a day. You may still want to offer a discount for a long-term relationship, extending your experience or to filling gaps in your portfolio. As you regularly increasing rates, you will start to throttle back the demand for your services.
Service Based Pricing
There is another way of looking at pricing which is a variation of value-based pricing and it moves away from the idea that you are going to charge a day rate for the number of days, to offer fixed price for a defined service. I have seen this done quite successfully for a number of people who are providing a part-time finance director service and then also looking after the bookkeeping and some of the accounting function.
They quote a fixed monthly fee for the full service, including their time as the finance director, and in effect they are providing an outsourced finance function for that business. But they make that fixed fee subject to 1) changes in transaction volumes and 2) excluding specific extra-ordinary work like preparing for a merger or acquisition or preparing for capital fund-raising.
The final option is to include an element of gain share in your pricing. Some portfolio executives take shares or share options in the client companies. Others negotiate a bonus based on a particular outcome – cost saving, revenue uplift, profit target or achievement of a capital transaction. Be careful! Clients can treat this as an opening to negotiate a deep discount. Often gain that you agree to share depends on the behaviour and commitment of the client. I worked closely with a corporate finance professional who found that if he relied too much on a fee based on transaction completion the client was insufficiently committed to either valuing their input or taking responsibility for their own activities necessary for success.
For your Portfolio Executive workstyle to be rewarding and sustainable, you need to actively manage your pricing choices. I suggest you need to be moving increasingly towards value-based pricing rather than cost-plus pricing. Recognise that as a portfolio executive, your value comparator is not the manager that they have in the business today. Your comparator is a full-time director or head of department. You are creating almost as much value as a part-time executive. A full-time senior executive might cost the business £100,000 -150,000 a year. On a part-time basis, you can create almost all that value for 30%-50% of the cost.
Charles McLachlan is the founder of FuturePerfect and on a mission to transform the future of work and business. The Portfolio Executive programme is a new initiative to help executives build a sustainable and impactful second-half-career. Creating an alternative future takes imagination, design, organisation and many other thinking skills. Charles is happy to lend them to you.