Assuming there are 1,200 hours of billable work to be done in the year, this formula seems easy enough, and makes financial sense, at least for the agency. The problem is that the formula is completely agency driven. It is tied exclusively to outputs, not outcomes, and assumes that all agency activities—account management, client communications, writing, planning, consulting, and creative—are of equal value. Thus, the fallacy: A marketing agency executive making X ($150,000) per year is worth Y ($375) per hour.
The fact is that the amount a professional is paid does not have a direct correlation to the quality or value of the services they provide, especially when you consider the impact of change velocity, selective consumption, and success factors, which were discussed in the introduction. And yet, we have an entire industry built on this pricing concept. Maybe the executive’s time is worth $375 per hour to build advertising creative or to consult on crisis communications situations if that is what he built his career and salary on, but now client needs are rapidly evolving (change velocity).
They are demanding different services (selective consumption) and measuring return on investment (ROI) in new ways (success factors). Clients are willing to pay a premium for experience and knowledge they do not have, but the unfortunate reality is that young professionals, who have grown up in a digital world, maybe more qualified to provide consulting and services in high-demand areas such as social media, SEO, and mobile. It is almost a reverse of how the industry has traditionally worked. Clients would pay for the inefficiencies of junior account executives while they learned the craft and gained experiences, but the labor and hourly rates were cheap.
Now clients pay for the inefficiencies of senior executives to learn the digital game, but their hourly rates are not coming down. In addition, as costs increase to run and grow the agency, including rising employee salaries, there are only two obvious options to maintain or increase profits: (1) raise hourly rates or (2) demand professionals work more hours, neither of which creates greater value for clients. The salary-rate fallacy is the core reason that billable hour are a broken system.
Unfortunately for many traditional firms, it is the basis for their financial structure and is incredibly difficult to change. Even for firms working off retainers, rather than project-based hourly rates, in order for the agreements to make financial sense, retainers still must be based on an estimated number of service hours using the hourly rate formula.
To further explore the challenges of the billable-hour model, consider the case of a press release. What do you think a press release is worth The correct answer, as any product or service in a free market, is whatever a client is willing to pay. However, in the traditional model, the cost comes down to two primary factors: the hourly rate and the producer’s efficiency. So let’s examine the practical application of billable hours in an agency.