Immersed in the agency space? Then, you’ve probably heard a ton of advice on how to price your projects. For example, some folks will say; “If you use Time & Materials, you’re waaaay behind.” Those same people may insist that you should be pricing on Value. But what of the other options in between? Are you even on the right path?! And how should that path progress as the social media marketing landscape continues to evolve?
All of this, and more, to be revealed!
*cues intro music* (kidding…)
Enter – the Agency Pricing Quadrant. It’s an exercise we’ve developed on our own to help agencies find the most effective & efficient way to price their services.
From our perspective, there are 4 major categories in which most pricing and contract models fall. Each pricing model has advantages and disadvantages that must be considered in the context of a particular service, market, or even on a deal-by-deal basis.
For example, some make use of hourly, or abstracted, forms of hourly billing to help share risk with a client. This is especially true when the scope of an engagement may be undefined, fluid, or downright hard to figure out! Meanwhile, others help leverage high-value scenarios to help you charge higher rates for similar scopes of work.
The Agency Pricing Quadrant will help you understand the two steps you should take before pricing your agency services. Why? To maximize profitability!
Step 1: Understanding the Value of your Service
Firstly, let’s talk about the vertical axis – that being Value.
This axis is meant to capture the perceived value of the service of solution you provide – from your client’s perspective.
There are many factors that influence this, but among the two most important are positioning and relative value.
Firstly, ask yourself this: How commoditized is the service/product you’re selling? Does your positioning help increase the level of perceived expertise and value for your customer by putting you in a smaller category with less competition?
Let’s imagine a large e-commerce supplements brand is looking for help with its online presence. If you’re offering social media management services with no further specialization, we can all agree you’ve got a lot of competition.
What might that look like…
Well, you’ll likely be competing against thousands of other agencies, freelancers, internal employees, and software services that remove friction from someone just doing it themselves. In short, since there are few points of differentiation that make it clear you bring something others don’t, you will be seen as one of many (like, MANY) options.
If, however, you’re positioning states something to the effect of: “We help supplement brands grow their sales through social media” you’ll immediately be perceived as having more specific expertise, thus putting yourself in a defined category.
For context; a very small percentage of the (countless) other options this brand has at its disposal will have a clearly stated position showcasing expertise in solving their specific problem. As a result, their willingness to pay more for your specialized service relative to others will be higher given the perceived certainty of obtaining their desired outcome.
The secret to good positioning…
Simply put, it’s being crystal clear on the problem you’re super at solving, and then narrowing your focus to those who encounter that specific problem more severely/often. That can involve choosing a specific vertical, reaching a certain market, dominating a certain channel, or any combination of the aforementioned factors.
Combined with great case studies, logos, testimonials, and thought leadership on their specific problem space – positioning can dramatically increase the perceived value of your service to your end client.
Before we wrap things up on our Value axis, you must also consider the relative value for your end client – that being, how valuable is your work for them? Often, this is a factor of scale, namely considering the scale of impact your service can have on your client’s business.
For example, you could do the same social media campaign for two retail brands. Let’s assume the results for both brands are the same: a 10% increase in sales.
Brand #1 has $100k in sales: the value of that service to them is an extra $10k in revenue.
Brand #2 has $10M in sales: the value of that service to them is an extra $1m in revenue.
Even if the time, effort, and output are exactly the same for both brands – the impact is clearly more valuable to the larger brand with more sales.
There are many other factors that may influence how your client perceives the value of your service. However, paying attention to the two primary factors of positioning and relative value should enable you to get a grasp of the value at play – notably when setting/negotiating pricing for your services.
With that in mind, there’s another important factor to pay attention to before determining the appropriate pricing model for a given engagement… do read on.
Step 2: Understanding the Risk of your Service
The horizontal axis in this model represents another important consideration – you guessed it – Risk. This axis is meant to capture the accuracy of your estimated time and cost to deliver a given service.
When determining where your services fall within the risk category, ask yourself this: “How accurately can you estimate the time that it’s going to take to get this project done, and the likelihood of said estimate being accurate in the end?”
Simply put, if you have a pretty solid estimate of the time it will take you to execute based on a very clear and well-defined scope and lots of historical data, it’s less risky.
You’re a social media marketing agency that only services clients in the eCommerce men’s clothing industry. You’ve had campaigns for dozens of similar companies, using templates and processes that have been well built and refined over time.
The scope of the engagement is very well defined, the client gets the same deliverables every month on a fixed cadence, and you’ve historically been able to achieve less than a 10% variance between your estimated and actual costs. This, right here, is an example of very low-risk work.
Conversely; let’s say you’re the same agency, but provide a variety of services, for a wide range of clients. Each project is customized, the scope isn’t well defined, and clients tend to ask for new or extra things on a regular basis… plus, you don’t have much data to inform how estimates are made. Given this scenario, it’ll be tricky predicting how much time or cost will be required to service a given client. Obviously, this is an example of high-risk work.
Step 3: Identify the Right Pricing Model for Your Service
Now, you’ve had a chance to plot your business down on the quadrant, based on value and risk! At this point, we can define each quadrant and recommend the best fit for your pricing strategy based on it.
Option 1: Time and Materials (T&M) Billing
This pricing model option is often suited for High Risk, Low Value work.
As you can see, the best fit for your situation is Time & Materials (T&M) billing…
Now, hear me out. Not every service is right for T&M, but there is still a place for it on this quadrant. Why? Because it facilitates risk sharing with the client by allowing you to charge them for the amount of time (and thus the cost) you incur to deliver the service.
In a Time & Materials billing model, it’s important to ensure that your employee cost per hour remains below <40% of the billable rate to the client. This leaves you with at least a 60% delivery margin on every hour establishing a foundation for reasonable profitability.
Let’s say your team’s cost per hour is $20. You would want to charge at least $20/40% = $50 per hour, in order to have a shot at liveable margins.
The next step…
You must be VERY proactive about client communication to ensure you write off as few hours as possible! Doing this instills protection from scope changes, and therefore the dreaded scope creep, as this increased time will be billed to the client. Therefore, your margins will already be built into the hourly rate.
As long as those things are true, there’s no reason why you can’t run a sustainable and profitable agency billing by the hour. It allows you to do work that is higher risk – plus more customized or more fluid for your clients – without necessarily having to absorb all the risk. More importantly, you can avoid allocating substantial quotes to account for possible contingency measures.
You’re a social media agency that does campaigns for product launches, spanning various industries. Your positioning is undifferentiated, and many of your clients are startups with small budgets. They tend to ask for LOTS of different things every week, plus often drop last-minute requests as the launch date approaches…
In this scenario, it’s exceedingly difficult to establish a pre-defined scope, as timelines and creative can change several times during an engagement. Time and Materials billing is likely the pricing model best suited to helping share the risk with the client – while giving them the perception of good value – via an hourly rate.
If you find that your Social Media Marketing Agency is offering – for the most part – low-value services that aren’t very risky, doubling down on T&M could be your best move.
Option 2: Abstracted Time and Materials (T&M) Billing
This second pricing model option is often suited for High Value, Low Risk work, as seen below.
The best fit for this situation is what we like to call Abstracted T&M. This is where you’re billing on T&M without having the ‘hourly’ conversation.
What does that mean?
Well, you’re basing the project on a time period to completion (ongoing) and not a per-hour rate. Oftentimes, this materializes a “team leasing” model of some form – where individuals, or cross-functional teams, are allocated to a client on a full or partial basis. The client is then billed for longer intervals of time (weekly, monthly, quarterly, etc.)
Because the team’s bandwidth is pre-determined and finite, the same protection is offered in this type of engagement as with T&M – as long as margins are baked into the rate charged, and the relationship is properly managed.
If a client begins to ask for far more than their team is capable of delivering, the agency can counter by offering to add more resources (therefore increasing the price of the engagement) in order to increase the velocity/throughout of that team to execute the new client requirements.
Similar to our previous model; you’re undertaking campaigns for product launches. However, this time you’re speaking with a large enterprise-level client. The same dynamics exist with timelines, and creative, with the scope changing all the time. Nevertheless, you are creating a ton of value as the launch has the potential to add millions in sales to the company’s bottom line.
In this case, you may consider an Abstracted T&M model, in which you “lease” a cross-functional social media team to the client for the 9-month period prior to their product launch. That team could include a designer, half a copywriter, a quarter of a strategist, and half a social media manager.
The price would be set to ensure at least a 60% margin on the cost of that team in a given time period. If, for example, that team’s cost is $3000 per week, the cost to the client would be at least $3000/40% = $7,500. This is without the need to hire, train or manage them.
Media Monks is a great example of an agency that successfully uses Abstracted T&M contract models for large client engagements and highly bespoke work.
Option 3: Flat Fee Billing
Flat fees are well suited for Low Value, Low-Risk work..
In the event that work is low in perceived value, but also considered low risk (in that these projects or retainers are easily scopeable), we can often use flat rates. This provides client peace of mind about the cost, plus a sense of high value while using the low-risk nature of the work to increase margins.
Here, your best bet is to implement a flat fee structure, and then make a push to become as efficient as possible at delivering this service to drive up your Average Billable Rate.
Consider you’re a social media agency offering productized services. Each client gets a specific number of social posts, reports, and strategy meetings each month. You rarely get requests for extra revisions or custom work. You use a white label design and copywriting vendor that charges you a flat fee for these services, while you handle the account and project management. Hence, you’re able to predict your costs and time estimates to within 10% of actuals on a consistent basis.
In this case, you may use a flat rate to give the client a sense of receiving great value for their dollar, plus removing risk for them – while using the predictable nature of the work to increase profitability.
In this example, you may charge $3,000/mo for a monthly package with a fixed scope. If it takes you 10 hours to deliver on that account, your Average Billable Rate ends up being $300/hr.
While your client might never agree to pay $300 per hour for social media services, they may be more than happy to invest $3000 per month. By focusing on the low-risk nature of the work, you can arbitrage process and efficiency to increase margins!
The same general rule applies to flat fees as to the other pricing models. It’s important to always ensure you’re making at least a 60% delivery margin on a given project in order to set yourself up for profitability.
Option 4: Flat Fee Billing
Finally, to our last quadrant.
If you’ve been running your agency for any length of time, no doubt you’ve heard the hype about value-based pricing?! Often heralded as the “best” pricing model, it certainly boasts advantages – but, as the above framework indicates – it isn’t always the appropriate pricing model.
In saying that, this is a very powerful pricing methodology, especially when providing work that is very high in perceived value to your client, but lower in risk.
The simplest model is very similar to Flat Fee Billing, where a flat price is proposed for the project. The key difference being the price is based on trying to capture a percentage of the impact it will have on the client’s business.
You’re pitching social media marketing campaigns for a large eCommerce agency to promote their newest product line. It’s a pivotal campaign for them and has the potential for significant market share. Thus, they’re expecting you to grow their sales in a critical segment.
How might this sales pitch go? Well, you could firstly open with the following: “What kind of results would you expect, assuming we do a great job on this campaign?”
And your client might answer: “We’d expect to grow sales by at least 20% in this key segment.”
You may then ask: “How much of your business comes from that segment today?”
To which your client could respond: “About $2,000,000 in sales comes from that segment, it’s an important one for us.”
You might retort with: “That’s great news – a 20% minimum increase in sales would represent at least $400,000 in additional revenue, which would be a huge win! I think we only need about 10% of that $40,000 to really knock this campaign out of the park for you.”
In this scenario, we’re using the potential upside for the client as an anchor for our price. It’s still important to be aware of our costs and ensure that the price is creating at least that 60% margin, but using value anchoring can mean substantially higher fees for a similar scope of work.
Price your service as a percentage of that value, however, you probably should pad it a tad for the extra risk you’re taking on.
The highest possible level of Value-Based Pricing is Pay for Performance. This is where you absorb an additional level of risk with the client. This requires you to de-risk the scope of the engagement AND the outcome. Unsurprisingly, this necessitates a high degree of service maturity, alongside the ability to accurately measure results. Instead of a fixed fee for value, you’re actually getting a percentage of the quantifiable upside you’ve promised the client.
By way of context; if your client claims they stand to gain $10m in additional revenue from this campaign, your price may be a small fixed fee to cover your costs – plus a 10% commission on any sales that are attributed to your campaign. In this case, you could stand to get paid over $1m for that campaign should the necessary results be achieved.
While that upside is attractive, it’s important to remember that it comes at the cost of taking on substantially more risk by truly “partnering” with your clients.
Believe it or not, there is still a place for T&M in the agency world. Full disclosure; I don’t know if it’ll ever be relegated.
In short, be honest with yourself when placing your business on the quadrant, and consider how you may be able to adopt a new pricing strategy. Know that your different services may be scattered across the quadrant; there is not usually a perfect match for each and every service. Therefore, try it out, iterate, and go again.
If you found this article helpful and want to dive deeper into the numbers side of running an agency, check out more of our free content at parakeeto.com
We’ve also put together a free set of training videos, templates, checklists, and cheat sheets to help you measure and improve the key profitability metrics in your agency. Fancy a free copy? Then make your way here!
About the Author – Marcel Petitpas
Marcel Petitpas is the CEO & Co-Founder of Parakeeto, a company dedicated to helping agencies measure and improve their profitability by streamlining their operations and reporting systems, a problem he discovered while running his own agency back in his early 20’s.