The Problem of Hourly Billing With Agencies and Freelancers
Most freelancers and agencies charge by the hour, but is this the best way to get paid?
When you’re in the early stages of your company, using third-party agencies and freelancers is a brilliant way to get top-quality work without the management and monetary overheads that comes with hiring new people in-house.
Most agencies and freelancers will ask for hour-based billing, where you agree on an hourly rate and they bill you for the hours they’ve worked over a week or month.
But is this the best way to pay for your projects?
Pros of hourly billing
With hourly billing, you don’t have to estimate the time a project will take, or agree on a fixed price before commencing work.
Instead, your freelancer can start on their work straight away and you can measure the time and cost as you go.
This can sometimes work out cheaper, especially if the project gets completed quicker than you expect. You also get the savings that come from avoiding the typical, expensive hiring process.
Cons of hourly billing
The main con of hourly billing is that it can often lead to misaligned incentives as freelancers are encouraged to work slower to earn more money—even if this doesn’t make sense from the product’s perspective.
This may lead to the project taking longer than you expected, or lead to you paying more money than you would have if you had initially agreed on a fixed fee for the project.
Alternatives to hourly billing
An alternative to hourly billing- that we think is much better practice- is value-based pricing.
This is where you agree on the project goals with freelancers before the project starts, and then let them recommend solutions on how they think they can reach those goals.
Using this practice, freelancers will get rewarded for providing the solution and also for the accepted recommendation—of which the recommendation is the harder part of the work.
The difference between value-based pricing and hourly billing is that the risk is more evenly distributed between the two parties.
With hourly billing, all of the risk is on the company as you agree to pay the freelancer for every hour they work, even if they don’t deliver the quality you expect. This can be risky.
Especially for startups, any type of expense is potentially problematic so you want to make sure that you’re investing your money wisely.
With value-based pricing, the risk to the company minimised. By agreeing on goals and recommendations beforehand, you can be satisfied that you’re hiring the right freelancer and can get a good understanding of the work that they will produce before they get started.
Value-based pricing vs. Hourly billing
Value-based pricing is an easy sell as it’s in the company’s best interest. It also benefits the freelancer as they will have a better understanding of what’s expected from them before starting work.
Here are two scenarios that demonstrate the benefits of value-based pricing:
A freelance web designer presents you with an hourly rate for their work and an estimate of how long the work will take.
You then have to make a decision based on the freelancer’s predictions rather than on an agreed fixed price.
You’re an expert in selling shoes, but not in website design so you have to take their word about how long the project will take.
The odds are high that the freelancer may have failed to mention something important to you which will result in the project running out of budget.
A freelance web designer presents you with a proposal where, if they fail to ask the right questions in the sales process, it’s their problem, not yours.
You can now make a buying decision based on an actual number with confidence.
In this scenario the freelancer has taken on most of the risk, not you.