This is excellent. The agency’s gross profit (or revenue after subtracting vendor fees) on the project was $12,000, and it invested 120 hours to complete the project. That means that it generated $100 for every hour of service for a 100 percent efficiency rating. Assuming that the services were provided by an account executive earning $45,000 per year, or approximately $19 per hour ($45,000/2,340 hours), the agency has plenty of room there to cover operating costs, employee compensation, and a nice profit margin. Now let’s look at an example of how this can go wrong.
Marketing plans can be time-intensive, and they often drain significant agency resources to execute. In this scenario, the HRT is $100, and, like the website project, it takes the team 120 hours to complete the project. At set price of $5,000, the revenue-efficiency rate is only 42 percent. In other words, the agency only generates $42 per service hour. To make matters worse, the marketing plan requires heavy senior-staff involvement, which costs the agency more to deliver the service.
The agency can absorb the inefficiencies as long as it is being delivered as part of a larger contract and campaign, otherwise, it can be a major problem. But what is the alternative Charge the client for all 120 hours at whatever the hourly rate i If we assume a billing rate of $150 per hour, then it would be $18,000 for a marketing plan that will be outdated by the time it is presented? Are there clients willing to pay that much for a plan Even if there are, will you be comfortable with the value they will get from it, knowing how quickly plans change.
I would argue that with a 12-month contract in place, this is potentially a loss leader worth taking. Your goal is to build long-term client relationships, and this gives your team the chance to immerse itself in the industry and put a solid foundation for success in place. However, do not make a habit of taking on low-efficiency projects like this.
When Do Billable Hours Make Sense?
Even knowing all the challenges with billable hours, when the variable scope is involved, they may be the only viable solution. This applies to services such as consulting time and media relations, which can be very difficult to forecast, given their dependence on variables such as ever-changing client needs and demand from third-party audiences.
For example, a PR firm may forecast 20 hours to make targeted pitches to 10 high-priority journalists, and coordinate any follow-up communications and interviews. If it takes 15 hours to research, craft, and distribute the 10 pitches, 5 hours are left for any additional work. However, when all 10 journalists respond and request supporting materials and onsite interviews, the agency realizes it dramatically underestimated hours.
Last word
My solution would be to define the known scope—research, craft, and distribute 10 highly targeted pitches—and commit to a value-based set fee for that first phase, regardless of how long it actually takes to complete. Then, have a contingency allotment of service hours available based on media demand. Although still integrating billable hours, this approach is preferred for a few reasons.
