If you are just starting up a consulting business, one of the toughest questions is how much to charge, especially if your “product” is just you. How much is all that experience and knowledge and insight you have accumulated worth. There are ways to make it easier.
I usually do all of the calculations in “hours” even though I often charge by the job. In reality, all you have is time to spend. I suggest starting by looking at your value from two sides: yours and theirs.
Start from your side.
- How much do you want to make (i.e., what do you want your W2 to say)?
- What’s your sales and marketing overhead in hours? These are real hours that you will have to work that aren’t billable. This is usually expressed as a percentage of your billable time, usually in the 20% – 40% range. When you start out it is higher, and you might expect that it will decrease as you increase your set of customers. Even if you are overbooked, it should never go to zero, especially if you rely on just a couple of clients for the majority of your work. When one of them says “bye” for whatever reason, if you haven’t been keeping yourself visible it can be just like when you started.
- How many hours are you willing to work in a year? Include both billable and non-billable hours. Don’t forget to take vacation and holidays into account.
- What’s your “corporate” overhead? Include the annual strategy planning trip to Aruba, the monthly gym membership, medical, taxes, communications including phone and Internet presence, travel, retirement, …. There are usually two parts to this. The first is fixed costs that don’t vary whether you actually have income or not (like medical, rent, and communications). The second is variable, which you can usually express as a percentage of revenue (like taxes and retirement contributions).
- From that, you can calculate an hourly rate. For example, if your marketing overhead is 30% and you are willing to work 2,500 hours a year (50 weeks at 50 hours per week) then you have 1,923 billable hours available. Let’s assume your fixed overhead is $20,000 per year and your variable overhead is 50% of revenue, and you want your W2 to say $80,000. The total the company has to earn is $80,000 + $20,000 + $40,000 = $140,000 per year. You have 1,923 hours to generate that revenue. Therefore for this example, your rate is $72.80 per hour. Since these are really an estimate, let’s call it $75.00 / hour.
Start from their side.
- How much is your time really worth? If you recently worked for a large company that “sold” people like you for customer projects, you have it easy. What your company charged for you is one measure of your value. It also allows you to figure out what your prior company’s overhead + profit was, often 2.5 to 4 times what they were paying you. Thus your overhead isn’t as high as a big company, unless you really want that annual strategy meeting in Aruba. Baring unusual circumstances, you need to be at least 20% under your prior company’s rate. Many organizations are willing to pay that kind of premium to get the perceived safety that a large company provides.
- Find out what your competition is charging. This may be harder than you think. Some won’t want to reveal their rates, but the biggest challenge is to make sure you are comparing yourself with someone of comparable experience and skills.
If the “your side” rate is even close to the “their side” rate, you are done. Live long and prosper.
Usually your rate is significantly higher than their rate. There are two possible reasons for that: your estimation of your value is not realistic, or you aren’t comparing yourself to your real competition. What makes you unique? What niche can you absolutely claim as yours? The smaller your niche, the more you can charge. As a side benefit, the smaller the niche the smaller the target market and the more focused your marketing and sales efforts are.
I’m not a believer in discounting rates to “buy-in” to a customer. That first project sets a lot of precedents, including your rate. I would rather give away maybe a day’s consulting as pre-sales effort. Personally, I believe in the creeping commitment plan, also known as the camel’s nose in the tent ploy. I start out with small projects, each leading towards the customer’s real goal, but always with the clearly stated ability of either side to wander off at any point. The trick is to make sure that each little project provides measurable value to the customer, and appropriate revenue to you. The end of each project includes a report which emphasizes the results and the value the customer received, along with a proposal for the next phase.
Find out how much the person you are dealing with can sign for without requiring more than one layer of approvals. Keep your proposals under that value until you have established your reputation. The best way to be successful is by making your customer contact person a hero.
The last word:
Smile a lot. People would much rather work with a competent person who is pleasant and seems to be enjoying the project.
Keep your sense of humor.