Had dinner a week or so back with a friend who also works for a services company, in the software sector. We got to talking about billing practices in the industry and it got me thinking. Even though the projects we work on are all developing products, our business model is very different from a product OEM. The main difference of course is at our core we sell time, whereas a product company sells, you guessed it, products.
Having sold engineering services now for nigh on 19 years, I’ve learned a lot about what works for both us and the customer. So at Zebulon Solutions we use three business models in roughly equal proportions: Time and Materials; Step-Wise Fixed Price; and Retained Resource.
Time and Materials (T&M)
This is the classic business model for services. Think lawyers and repair services. The model is simple: the customer pays for the time of the service provider at an agreed upon hourly rate plus materials (and travel), with or without a markup (we markup materials but not travel). We prefer this model for projects that are either more consulting in nature than contract services, or in cases where the statement of work (SOW) is vague or fluid. Works best in high trust relationships. Downside is that this model leads to some “diode” issues, where the up and down side don’t balance. Some customers want to believe that T&M means “we will bill you for no more that xxx hours no matter how long it takes,” which is not at all how we quote work. This can get exasperated by misuse of the common term Not To Exceed, which means (the way we write SOWs at least) we won’t bill you for more than xxx hours without further approval, but if you don’t approve we do stop. Others just rebel at the idea of getting billed for everything, “like lawyers” they say, with a touch of spite. This also points out the other issue with this model in that it’s inherently based on effort, not results. We prefer this model for projects that are either more consulting in nature than contract services, or in cases where the statement of work (SOW) is vague or fluid. Works best in high trust relationships.
Step-Wise Fixed Price
This is a variant on the other classic business model, fixed price against a fixed SOW and deliverables. We actually prefer this model for small, well defined projects, but break it down into steps for larger projects (hence “step-wise”). Essentially we provide a budgetary quote for the entire project based on a set of assumptions, divided into phases, but only the first phase, where we have the highest confidence that the SOW is indeed fixed and the deliverables are well defined. During the current phase part of our work statement is to plan out the next phase so that we can then quote it accurately. At the end of phase 1 we then revise the budget estimate for the remainder of the project and also give a firm quote for phase n+1. This keeps the project results based while reducing risk of scope creep or scope change (which do happen A LOT in productization). Note also that as the risk is on us in these cases we tend to add in contingency and iteration buffers. It also means we are quick to come back with ECOs (Engineering Change Orders) for changes to scope, which does put us at risk of being accused of “Nickel and Dime-ing.” Can’t win, but hey the customer is always right, right?
In this model we sell a fixed number / fraction of an individual, or class of people for a period of some months. For example one-half of a supply chain manager or process engineer for 6 months. We also use this for our Fractional / Interim Executive services. We don’t count hours per se, leaving the onus on us to self regulate, with some averaging over the months, to provide the level of effort committed to. This works well when we are working as part of an extended team for an extended period. Customers like this because it matches up with their internal personnel costs and because it gives them cost certainty month after month. We like it because it allows us to do longer term resource planning. Doesn’t work well in projects that have lots of ups and downs (T&M better), and usually not preferred for projects where we are doing an entire task or subtask (step-wise fixed price is better).
In all cases we also charge for any direct travel, including local travel (but excluding “commuting” to the customer’s site, if local), and for materials (incidental materials, freight, components, 3rd party services etc.) to which we add a markup.
Most other services businesses use similar models: car mechanics, lawyers, interior designers, even doctors.
Gotta run. Time is, literally, money.