Resolve to Improve Profitability

Want to be more prosperous in 2007? If you're really ready to move the needle on your firm's profitability, this post is for you.

The most impactful way is to implement Value Pricing. And recognizing that you may not be ready to abandon billing by the hour, that's fine, you don't have to jump in the deep end of that (wonderful) pool just yet...but keep reading because this one action will help your improve profits no matter how you price:

Get a Handle on Scope Creep: Use Change Orders

If you bill by the hour, do you ever have write-offs? Time you "can't" bill? My bet is that you do. Sure, some of that time stacks up because it took, in your own judgment, more time than it "should have" to do the work, so you don't charge it to your client.

But what about all that time that accumulates because of unanticipated work you did either (a) thinking that it would be "just a tiny amount, no big deal" but...it grew or, (b) you didn't know about it because somebody else did it, or (c) you just didn't take the time to call the client to discuss this "extra" work before you started doing it and so you feel bad charging them later.

As you should. It's unauthorized work, right?

After all, You wouldn't appreciate being charged for something you didn't know was coming, either. Sometimes we bill it anyway, but each time it is a risk met either with understanding or annoyance. Usually annoyance. Clients leave over this stuff.

The hardest thing, in my mind, about Value Pricing (which we do here) is the same, exact thing firms that bill by the hour struggle with. Change Orders.

Firms tend not to use them much because it doesn't SEEM as detrimental at the time when you have the hourly cushion to fall back on. Plus, Change Orders mean that you must actually think through any extra work you are about to delve into, talk with the client FIRST to discuss "what it might take" and then receive PERMISSION to proceed.

This may be called a "change order," "work order," "revision of scope," or "new project" and it is a crucial part of successfully managing a customer's expectations. This should be a formal and regular process in your organization.

Skipping this step is a costly mistake. It either costs you in collections or it costs you in client relations.

An irony I see is that practitioners sometimes become ANGRY and RESENTFUL of their clients as they begin to gripe about unexpected billings. "Oh, they are fee sensitive," we hear. Or, "they don't appreciate how hard we worked for them." Sometimes decide this makes them a "bad client." And firms fool themselves into believing that the client's imminent departure is good for the firm.

HUH?? This is a problem on the service provider side. It's an expectation problem. It's really bad for the reputation. And it kills a potential referral pipeline, to boot.

Without trying to quantify the cost of a damaged reputation and lost referral revenue--both big numbers, to be sure--let's just focus on the proportion of write-offs that can be recovered by checking scope creep once and for all.

Most firms seem to have WIP write-offs of 10-20% of gross. Most firms we work with tell us that about a third of this is efficiency related...they just ran up more time than they should have. The other 2/3 is truly money left on the table for failing to talk to clients in advance of additional work being performed.

One $8M dollar firm we know that had a staggering $2M in WIP write-offs for 2005 is confident that well over $1M could have been kept if they'd had a handle on their scope creep because most of it was work that was outside of their very clearly defined engagements. They are fixing this and you can, too.

How? Step up project management and communications:

1. think through what IS and is NOT included in your project before you start it -- I cannot over emphasize the importance of this step
2. talk to everyone involved in the project at the outset to be sure everyone completely understands #1
3. create the expectation internally that anyone performing work not first approved by the client is putting the both the client relationship AND the firm's financial health at serious risk
4. put in place an appropriate communications channel to assure that associates and staffers bring to the attention of their supervisors/managers/partners any potential changes in scope
5. be sure the the person with client relationship responsibilities has enough information to set the client's expectation about the financial or other impact of this change
6. contact the client and get approval (written is always most appropriate) before tackling the work

I bet my 2007 revenues that if you take these steps, that your existing projects will be more profitable. And a lovely side benefit is that they lay excellent groundwork for Fixed Price Agreement work should you move to that model somewhere down the road.

In the event you'd like to read more about other ways to improve profits, see my previous post, Profitability Through Pricing.

Best Wishes for Greater Prosperity in 2007!

Comments

[Chris Laughton]

Michelle

A great New Year's resolution!

Is a simple tool to help with points 1 to 4 a note of the project scope as the front sheet of your working files? The concept is tailorable to electronic rather than paper files if necessary.

Chris

[Michelle Golden]

Hello Chris, yes, I think an overview of the engagement in a prominent and consistent place in the client's file is a wise approach.

Beyond that, though, I think conversation with the team to confirm facts (at the start of the engagement) and keeping doors of comm. open throughout so the customer's primary contact is always accessible in the event scope creep pops up.

Having a good change order form available and ready to go is essential. And doing a great job spelling out scope in the engagement letter plus setting the customer's expectations about what sort of common things that might arise but are outside of the scope are.

You might enjoy reading a recent post on the Verasage.com blog about a practitioner who, through his value pricing journey, is evolving his engagement scope descriptions to be more clear to clients about these things on the front end. From my experience, the things he cites in the email/blog post are the most common causes of scope creep for accountants. I find it is helpful to be open about all of this up front.

This post I refer to is quite long, but here is an excerpt of the part I'm referring to:

"This year we have set more specific parameters in our fixed price agreements, regarding the obligations, responsibilities and timing required of the client. As an example we now incorporate wording that results in a change order if we have to review more than two drafts of the filing; a change order if documents are not received when agreed on; a change order if we find management's assessment of internal control to be deficient; a change order if the opinion is qualified, or if there are undisclosed transactions, e.g. discontinued operations that they haven't accounted for properly."

The entire post is here: http://www.verasage.com/index.php/community/comments/faqs_about_change_orders_customer_profitablity_and_productivity