In my article yesterday, I wrote that I wanted to start sharing some of the mistakes I've made in the few short years I've been running my business.  Today I am going to share what I believe is the biggest mistake I've made (so far).

Technical support by the hour

When I first started working at Grandjean & Braverman, we billed almost all of our technical support by the hour.  We actively supported dozens of custom applications we had built over the years, so this ongoing technical support was a large portion of our annual revenue.

One of our largest clients was a local government body.  We were supporting custom software in about a dozen different departments.  We billed each of these departments on a quarterly basis for the hours we spent providing support.

Budget busting invoices

We would go months without doing any work for a department.  Then we would spend weeks implementing a new feature request.  At the department level, our charges would yo-yo wildly from one quarter to the next.

Our client reached out to us.  They explained that the unpredictable bills made budgeting nearly impossible.  Would we be able to provide them with a fixed price for our annual technical support?

I had already begun transitioning from employee to business owner by this time.  It was up to me to decide the best way to handle the request.  I chose poorly.  The decision I made likely cost my business tens of thousands of dollars in lost revenue over the next several years.

My biggest mistake

Our client was tired of dealing with the risk of unpredictable billing.  Who could blame them?  Billing by the hour was high risk for them because there was no ceiling to how much they might have to pay.  Instead, they wanted a single annual price for unlimited technical support.  So that's what I gave them.

Offering them a fixed annual price was not the mistake, though.  My mistake was in how I calculated it.

For each program we supported, I looked back at the average number of hours we had spent supporting that program each year for the past three years.  I then multiplied that average number of hours by our hourly rate.  This was the number I quoted for our client.

It didn't seem like a big deal to me at the time.  Some departments would use more support than usual in some years, while other departments would use less.  I figured everything would work out about the same at the end of the year.  Hourly billing?  Fixed price?  To-MAY-to, to-MAH-to. Or so I thought.

The cost of risk

I had never taken any kind of business class in high school or college.  I never made the connection that risk had a tangible cost.  

I finally realized my mistake years later when I started reading Jonathan Stark's material.  Here's an excerpt from Jonathan's Value Pricing Bootcamp:

There’s a word for taking on risk for another party:

Insurance

And there’s a word for what people pay for insurance:

A premium

(okay, that’s two words but I’m on a roll…)

When you take on risk for your client, you are entitled to charge a premium.

Those first four lines hit me like a ton of bricks when I first read them.  When I changed our arrangement with the client, I saw no meaningful difference between billing them by the hour or billing them upfront for the entire year.

What I failed to appreciate was that the switch involved an enormous transfer of risk from the client to us.  And because I failed to appreciate the distinction, I never priced the value of that risk transfer into my annual price.

My new prices were way too low.

A changed dynamic

I said earlier that I never took a business course in school.  That's true.  But I did take an economics course.  And I was about to get a front row seat to the interplay of supply, demand, and price as they played out in the real world.

When we were billing for all of our support by the hour, there was an incentive for our client to ask only for the support they needed from us.  Of course, the actual users requesting support were not the ones paying the bill, so that incentive was actually a level or two removed.  That's part of the reason our invoices fluctuated so wildly from one billing period to the next.

When we switched to an all-inclusive model, though, that pricing incentive went away.  What's worse, the new model actually encouraged the client to ask for more support.  We were answering questions about email and printers and Windows updates and WiFi and antivirus scans and network folders and on and on.  

For years we answered these types of questions and never thought twice about it; they were paying us the same hourly rate whether we were writing software or helping them convert a Word document to PDF.  But now, every minute I spent providing support was eating into our profits.  I found myself getting more and more annoyed with these questions that had nothing to do with our software.

Eventually, I began to get annoyed with the users themselves.  That wasn't fair, though.  For the users, nothing had changed.  They weren't directly paying for our help before, and they weren't paying for it now.  The only difference is that their supervisors no longer had an incentive to rein in their support requests.

I didn't like this new dynamic.  I enjoy helping people.  Something had to change.

Fixing the mistake

The Jonathan Stark email I quoted above is nearly three years old.  So I knew about the mistake I made for three years before I finally did something about it this year.  In tomorrow's article, I'll talk about why it took me so long to address the mistake and what I finally did to fix it.

Image by Gerd Altmann from Pixabay