Choosing the right pricing model for your project is a critical decision that can significantly impact both customers and contractors. For project management, two prevalent models often stand out: “Time and Material” (T&M) and “Fixed Price.” Each has its own set of advantages and challenges, leading to an ongoing debate on which is the better approach. In this blog post, we’ll explore these two perspectives from the lens of the customer, concerned about controlling costs, and the contractor, anxious about potential overspending and financial losses. Additionally, we’ll introduce a relative newcomer to the scene – the “Fixed Hours per Month” model – as a potential alternative that aims to strike a balance.
Customer’s Concern: Controlling Costs with Time and Material
For customers, controlling costs is a top priority. Time and Material contracts offer flexibility and transparency, allowing clients to pay for actual hours worked and materials used. This approach is particularly beneficial in projects where requirements might evolve or are not well-defined from the start.
Flexibility: T&M provides room for adjustments as project requirements evolve, allowing customers to adapt to changing circumstances without incurring hefty change orders.
Transparency: Customers have a clear view of project progress and costs, as they pay for the actual hours worked and materials used. This transparency fosters trust between the client and the contractor.
Uncertainty: The open-ended nature of T&M contracts can result in cost uncertainty, making it challenging for customers to predict the total project cost accurately.
Potential for Overspending: Without a fixed budget, there’s a risk of exceeding the initially estimated costs if the project scope expands significantly.
Contractor’s Concern: Mitigating Risks with Fixed Price
Contractors, on the other hand, often grapple with concerns related to overspending and financial losses. Fixed Price contracts provide a sense of stability, as they establish a predetermined cost for the entire project, but this comes with its own set of challenges.
Predictability: Contractors can plan and allocate resources more efficiently, as they know the project’s total cost in advance.
Financial Security: Fixed Price contracts offer a level of financial security, as contractors are protected from unforeseen project complexities or changes in client requirements.
Limited Flexibility: Changes in project scope or unexpected challenges can lead to disputes over additional charges, potentially straining the client-contractor relationship.
Risk of Underestimation: Contractors face the risk of underestimating the project’s complexity and incurring losses if the fixed price does not cover the actual costs.
Introducing a New Alternative: Fixed Hours per Month
Recognizing the limitations of both T&M and Fixed Price models, a relative newcomer has entered the scene – the “Fixed Hours per Month” model. This hybrid approach aims to combine the best of both worlds, offering flexibility along with some degree of predictability.
Fixed Monthly Commitment: Clients commit to a set number of hours per month, providing contractors with a stable revenue stream.
Flexibility within Limits: Clients retain the flexibility of adjusting project requirements within the agreed-upon monthly hours, striking a balance between adaptability and predictability.
What happens if there are no more hours left before the end of the month? The client has two options: 1) Pause work until the next month starts which adheres to controlling cost, or 2) pay for extra hours to keep project timelines and keep the momentum. For example, if there are only 3 business days left until the next month starts, a pause has less impact. However, if there are more than 7 business days remaining, purchasing more hours may be a better decision.
Are unused hours rolled into the next month? No, for most agreements, because the contractor typically discounts their hourly rate to secure monthly revenue. As a result, the fixed-hours alternative is more fair than T&M or Fixed Pricing which reduces stress and other concerns.
Less reporting means less overhead: Both T&M and Fixed Pricing have normal invoicing and payable tasks that require reviews and approvals, as well as, reminders or nudging when invoices are due. A benefit with Fixed-Hours is a reduction or even elimination from this overhead. An auto-pay can be set up via ACH, Wire, or even an organization’s credit card resulting in no invoicing. To replace invoicing an audit report will account for every hour used per sprint or milestone. Typically, each project contains estimated task hours or milestones where an automated alert can notify the client’s sponsor and the contractor’s project manager. With these timely notifications any concerns can be addressed more quickly.
Contractor accountability: In the Fixed Hours model, clients require assurance that the hours spent are tracked and accurately documented. Ideally, a time tracking system that updates activity either per day or per work session, and rolls up to reports. For example, a contractor’s resource can select a customer, project, sprint, task, and enter actual hours. Each task spent (actual) hours can be compared to the Sprint task’s estimated hours and notifies if overage is greater than 20% so immediate review and corrective action can be taken, if needed.
Transparent Reporting: Contractors maintain transparency by providing detailed reports on how the allocated hours are utilized, ensuring clients are informed about project progress and costs.
In the complex landscape of project pricing, each model – Time and Material, Fixed Price, and the emerging Fixed Hours per Month – comes with its own set of advantages and challenges. The key is to carefully assess the specific needs and nature of the project to determine which approach aligns best with the interests of both the customer and the contractor. As the industry continues to evolve, embracing innovative models that blend flexibility and predictability may pave the way for more successful and collaborative project outcomes.
Note: an upcoming flat-fee Value Proposition blog post is planned where it asks the question, “What is this product or service worth to you, regardless of how many hours were spent creating it”.