Pricing for Service Based Businesses
Pricing for Service Based Businesses
Pricing services can be more difficult than pricing products because it’s a much more subjective process.
How do you accurately calculate the worth of your knowledge, training, experience, that of your staff, and the value of your time and theirs?
You also need to consider your overheads and the cost of the time you spend doing internal work in your business (like social media, bookkeeping, replying to emails etc).
It can be easy to focus of your ‘billable rate’ and think if you are charging $100 an hour you are doing much better than when you worked as an employee – but if you spend 1 hour on non-billable work for every hour of client work you are (in very simple terms) only making $50 per hour – ok, but not as exciting right?
This is often why you run around in circles – chasing more clients, over working yourself and still finding the money isn’t adding up at the end of the month. And that hasn’t even accounted for your business expenses.
REMEMBER – You started your business to make a profit. If you are giving away your services for less than cost, or just breaking even, you’re operating a non-profit venture and if this isn’t your deliberate intention it is a recipe for burnout.
There are two most common and basic ways to charge for services are;
Flat Rates and Hourly Rates.
This is when you work out an average amount of time it will take you to complete certain “jobs” and charge based on this.
Logo Design for example might take anywhere between 2 hours and 2 weeks depending on the client but you might average it out to around 6 hours of design time so charge based on this.
Flat rates make things straightforward and easy for clients to understand and the process is very black and white, they know your prices outright, and there are usually no surprises.
On the contrary, hourly rates vary based on how long you’ve spent working on a specific project. It’s important to keep a record of the time you’ve spent working on a project, and on the upside, you get compensated for the extra time you’ve spent working on changes and revisions.
It can make it harder to quote for certain jobs and the lack of clarity at the outset can be a deterrent for some clients. It depends on the type of work you do and how you like to work.
Use whichever system feels right to you.
In terms of how to decide on prices for your services it is just as important to go through the equations above. The overheads might be bigger, the labour might be bigger while the materials are small, or non-existent. That’s ok – the process should be the same.
Work out what you want to be paid per hour for your labour, add in your overhead costs and your materials. Then add on your profit.
This gives you a wholesale or “baseline” price. It’s good to have this even with services because it allows you to offer affiliate commissions, offer discounts of standard fees etc, all the while knowing what your baseline is and that you are still being compensated fairly for your work.
Calculating your costs
In many ways your costs of providing a service don’t seem as obvious as the costs associated with product based business, but it is vital you account for them in your pricing strategy.
- Materials cost. These are the costs of goods you use in providing the service. A cleaning business would need to factor in costs of paper towels, cleaning solutions, rubber gloves, etc. A social media agency needs to consider the expenses such as scheduling platforms, Canva pro subscription. etc.
- Labor cost. This is the cost of direct labor you hire to provide a service. This would be the hourly wages of your cleaning crew and/or any work you outsource to a VA or expert such Graphic Designer, Ads Expert etc. It may include employees, regular contractors or project-by-project freelancers.
- Overhead costs. These are the indirect costs to your business in providing services to customers. Examples include labor costs of your bookkeeper, your website hosting, courses and training you pay for to continue upskilling etc. Other overhead costs include your monthly rent, taxes, insurance, depreciation, advertising, office supplies, electricity, etc.
Working out how to add a portion of your overheads into your pricing can be a little tricky. I like to use the HOURLY BURN method. I learnt this method from Megan Auman of Designing an MBA.
Work out your monthly overhead expenses and divide that by the total number of hours you spend each month on billable client work.
Total Monthly Expenses / Total hours/month spent on billable work = HOURLY BURN
Your Hourly Burn is effectively how much you spend on Overheads by the hour so you can cover all your overheads each month in the time you spend invoicing clients.
Let’s say your monthly overhead expenses come to $1,200 and you are producing products for 64 hours a month. Your Hourly Burn would equal $18.75. Your $100/hour is now down to $31.25.
If you actually make $31.25 profit for every hour spent working for your clients and you do 64 hours a month that might seem ok? 64 x $31.25 = $2,000. But if you actually spend 2 hours on non-billable work instead of 1 it drops really quickly to $900 a month profit for 30 hours a week work and suddenly you are not even making minimum wage.
It’s not all bad news
I don’t share this to make you feel bad, or give you any sort of sense of doom about your business – quite the opposite. I want to encourage you to really look at your costs, expenses, any outsourcing you pay for and make sure your prices actually reflect that.
You deserve to be well paid for the work that you do.
In a service business, your biggest costs are usually your people costs, either paying other people, or your own time.
You may want to also re-evaluate your overhead costs to determine whether there are other cuts you can make to bring your price down and your profit margin up. Are you paying for subscriptions you don’t need, can you outsource more efficiently? Don’t assume that your expenses are the problem – it’s more likely you need to be upping your price – but if there are ways to cut costs and increase profits than that’s a win to.
Once you realise your true costs, and consider increasing your prices, you might also want to think about the Perceived Value of the services you offer. We have a post on that here.
Are you going to rethink your pricing strategy now?
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Pricing is not all about the numbers. You need to consider things like how it affects the perceived value of your work, your positioning in the market place and that you ensure your pricing model is sustainable for you and your business. It is important though that you understand the numbers as a base to build your pricing strategy from.