Hourly rates or flat pricing – which pricing strategy works best (for agencies)
If you’re in business you need to start getting payments in, as soon as possible. It’s your lifeblood and you’re not doing this for fun. So how are you going to charge? By the hour or by the job.
Not surprisingly (after all you wouldn’t need to read an article on it) there are considerations, pros and cons, and arguments for and against both ways. Equally unsurprisingly, there is no definite answer (sorry).
Here’s something new, how about an answer in the introduction…you are probably going to have to consider doing both. Good, now that’s out of the way, let’s look at the whys and wherefore of what they are and how to choose.
What’s an hourly rate?
Hourly rate pay is a set payment for each hour of work. If you work in a shop for 8 hours at $10 an hour – you get $80 for that day. Couldn’t be easier, on the surface. It’s the most popular pricing option in the field of web design and web agencies so it must be worth consideration.
The big question to answer is what your hourly rate should be, you can’t just pull a random figure from the air. You need to do the math. Take into account three key aspects:
- What do you need to keep in business? You’ll have business expenses (business rent, utilities, taxes), personal expenses (mortgage, food, clothing etc). You need to factor in how much time off you need, long term business growth (hopefully). You should calculate how much you need per month to keep going, work out the hours you can put in, and get an idea of the hourly rate that is right for you…this is the basic figure.
- What does the competition charge? It’s a big, big market. Dog eat dog. You can’t charge top dollar, especially not at first. What does an employee performing the same tasks as you make?
- Do you have the clientele? Have you built up a reputation that’s going to have clients fighting for your services, or are you going to have to undercut and over-perform to create demand?
So now you’ve got an idea of your prices per hour of your valuable time, we should head on to the advantages of an hourly system of payment.
The most popular pricing option, so let’s look at its strengths.
- You are guaranteed income for the time you put in. It’s comforting to know that the time you work is the time you’re paid for. The fear of the dreaded scope creep is no more, in fact, it becomes a welcome bonus. More changes, more hours, more money. As the project grows or the client wants more changes made, so does your fee.
- Hourly contracts, especially with long-term clients give you a more predictable income and a more consistent flow of work. Eases your stress and keeps your bank manager smiling. consistent work. You can work out a minimum and maximum hours per week, to help predict, good for you, good for your client.
- A conventional method of payment, clients are used to this form (never underestimate the value of convention, people feel secure).
- Clients like the flexibility to change the project scope and make additions and changes. This should improve the overall quality, resulting in improved project performance and happy (hopefully returning) clients.
- You can have several clients going at one time, this diversifies your workload, which is a good long term strategy. You don’t want to become over-reliant on a single client. It also helps stimulate your work and keeps motivation and interest when working on different projects.
- Easy to scale. Small projects – no problem, bigger projects, fine too.
- Can appear cheap. It’s risky but your hourly payment can seem very reasonable if a client envisages you taking only a few hours to complete a whole site. You really need to communicate on this point to avoid issues later. Time estimates will help the client visualize the true costs involved.
Wouldn’t it be nice if it was only strengths… but no, no, no. There are weaknesses too inherent in this pricing system.
- Many businesses like to work in a more concrete, budget-conscious way and can worry about the overly flexible nature of hourly rates. If you are working in a shop, your boss can see what you are doing, but this is not a shop. You are left on your own, it can be difficult for the client to comprehend how much time certain things take. And then there are the trust issues….
- Efficiency can be penalized. The faster you are, the quicker you finish, the less you get paid. The whole thing seems counter-intuitive.
- Can appear expensive. You aren’t working for the client in their office, with their facilities, with their free coffee. You are working as a business and all these extras (overheads, vacations, sick pay, pensions) have to be factored into your hourly rates. You have to justify your value.
- Difficulties in raising rates for established clients. There’s a reasonable chance that to get your first clients or new clients you priced yourself at the lower end of the scale. Good short-term thinking, very competitive. Now you want to start making some money. It can be difficult to up an hourly rate, as the clients are used to your rate and justifiably can’t see any difference in your work. Flat fees are much easier to raise surreptitiously, even gradual increases in hourly rate are obvious.
- Limits your potential earnings. There are only so many hours in a day, and you’ve capped your salary. Can be less efficient, demotivating, and allow for distractions.
- Clients are scared of change getting out of control. Knowing they have to pay more for extending the scope will often limit a client’s willingness to make improvements or take your advice. This will often result in a poorer performing project.
- Record keeping – it’s worth bearing in mind that you may have to justify and prove time spent and keep detailed records.
Even for hourly rates, it’s worth being prepared with a rough estimate of overall time needed. This can help smooth the ground for both you and the client. You have an idea of how much they are willing to spend, they have an idea of cost.
What’s a flat rate?
A flat rate is a single fee for the agreed delivered service. You are paid on completion, or fixed payments for various completed stages regardless of the time taken or potential issues on your side.
Without wishing to complicate matters, there are still more advantages of this payment method, and of course a few disadvantages to keep you thinking.
There is a simplicity to flat payments that’s very appealing for both sides.
- Confirmed prices and payment terms mean that everything is clear from the start for both parties. The client knows exactly what they have to pay and you know what you have to complete to get the payment. It sounds perfect.
- There are no surprises, no questions, no arguments. Invoice time comes, send it, receive payment. Theoretically, this should improve the payment cycle.
- Encourages hard work and efficiency. This method incentives hard work. The quicker you finish, the sooner you get paid. Better for you, better for the client. If you want to work crazy hours to get it done – why not?
- You could get way more than an hourly rate. Flat fee projects are based on the results, the value of the results, and the deliverables. If the client thinks the project is worth $1000, they don’t care if it only took you a day.
- You are seen as a partner, collaborator on projects rather than an employee. With a flat payment system, you are delivering something that will produce results for the clients, with an hourly system you are selling your time. The distinction is clear… hourly workers are seen as employees, flat fee workers aren’t.
- You can charge more for quicker delivery and shorter deadlines. Greater profit.
Disadvantages – you bet.
- You ensure a decent level of profit but also be competitive in the market you need to be able to estimate and quote with accuracy. Mistakes here can lose you a client, or when you’ve clinched the deal ends up costing you a lot of money. Experience is vital.
- Lots of quality detailed communication before reaching a final figure. You need enough precise information to estimate timelines and labor costs – otherwise, you are taking a shot in the dark and could be shooting yourself in the foot. Negotiation skills, experience, knowledge – all essential.
- Requires good communication throughout the project. This means additional time and maybe resources.
- Scope creep – the nightmare waiting for you around every project corner. Clients want changes, updates, tweaks…little things (in their minds, at least) it’s not part of the deal! If the project grows, your profits shrink. You’re going to have to deal with it, so even if means additional charges are agreed, it’ll still require time and effort for the project manager.
How to choose between the two?
For some businesses, it is obvious one system is better than the other. I don’t want someone to build me a house based on an hourly rate, I want to know how much it’ll cost to complete. In the same way, I want to pay my cleaner per hour, not per kg of dust collected. For web development or design, there is no definite answer, but you knew that at the beginning.
Hourly rates are ideal for unfamiliar projects, projects that you think could grow and grow. Clients aren’t always as certain what they want as you would like them to be (that’s the understatement of the year), it’s impossible to be certain of the time it’s going to take and what it’s going to involve.
Hourly rates are perfect for building up experience and portfolios, they are low risk and you are not putting your business on the line with a wildly over-optimistic estimate. Hourly rates are great for establishing business relationships, the client gets to see what you can do, without a great deal of commitment and you get to show them exactly what you can do without being tied in. Hourly rates are easily measured, hourly rates are absolutely transparent and hourly rates keep your options open and allow you to expand and learn all the time.
Flat rates work best when there is a clearly defined deliverable, exact definition of goals and expectations, and good communication or autonomy. Trusting client/agency relationships that have developed over time, with proven success will benefit from flat-rate work contracts.
Flat rates are ideal for experienced designers and developers, with good project management skills. They can be higher risk but ultimately more profitable if managed well.
Alternatively, used them both – estimate by the hour, present it like flat.
This is not a fight between two political factions, although it can seem like that when listening to advocates of either system. A mixture of both approaches, depending on the nature of the project, of the client/agency relationship, of the needs and requirements involved, is by far the best way. Clients might prefer one way over another and is anybody in a position to turn down work over how you get paid. A flexible, situation-specific method is the way forward.