There is no easy answer to how to price your goods and services. There are so many factors to consider and questions to ponder, that it can be incredibly frustrating, for both you and your clients. Even if you get it right, you may still not have it right! And as the business grows from one to many, that pricing that was correct once upon a time, may no longer apply.
When working as an independent consultant, pricing becomes a very personal and philosophical issue. I made approximately $35,000 annually when I left FedEx in 1999. Simple math says I made about $18.00/hr, although it was slightly less because my annual number included overtime. So, let's say $16.00/hr. If I charged that to my customers as an independent consultant, I'd have lost my apartment, car, girlfriend, and likely a lot of weight. Even double that number would not have come close to my annual salary.
Here are a few of the factors to consider relating to billing rates as an independent.
- Taxes: As an employee, your taxes are taken out automatically and you never see that money. In addition to that, there are the employer paid taxes that need to be added - Employer social security and Medicare add about 9% to the bill, and you're still responsible for paying it for yourself as the employer.
- Benefits: Whether it's vacation pay or health insurance, the benefits an employee receives will generally add up to about half the actually salary. In our example, probably another $8.00/hr on average. And the higher the salary, the higher the number, but the 50% is almost always a good number to use.
- Business expenses: To begin with, this may just be a second phone line and business cards. Eventually, it will include some level of advertising, a web site, perhaps even an office, equipment, travel, inventory, etc. I suggest staying as small and basic as possible, but realize, that can change very quickly. The first large contract may change your entire universe.
So, a $35,000 salary, will cost probably $50,000, plus expenses. Even being incredibly conservative, $25,000 the first year is fair. So, let's say that $75,000 in revenue may allow you to maintain your existing lifestyle.
Now that you've established a number, the next challenge is determining how much work you can actually do... and bill for. Generally speaking, 2000 hours is the number used for hours worked per year, so the $75,000 in sales would require a billing rate of $38.50. Easy!
However, some of the time you are going to be selling, not working billable hours. Some time you will be traveling. Do you bill for that? Are travel expenses billed separately to the customer? That billing rate also assumes you always have work to do when not selling. What if it's a bit dry for a couple weeks? You don't get to charge your customer's overtime on the next job when you are willing and able to work 60 hrs/week.
My estimate is that, at most, as an independent, you will be able to actually bill for 1000 hours in a year. Get the right contract, and maybe that number goes up, but it's a safe estimate, and that's what we're looking for.
So now, conservatively, you have to charge $75/hr in order to maintain your life style, and that still assumes a perfect world. No illnesses, no financial issues, customers paying correctly and on time, etc.
That number gives you no breathing room, at all. No room for error, and very little room for growth. And, I would argue, that's not a luxurious lifestyle. Excepting the unemployed, no one in the United States should set out on their own to start a business to make $35,000 a year! It's bad math.
But here's the challenge. As a 26 year old, making $16/hr in 1999, the idea of charging $75/hr (let alone the $125/hr that I should have) was traumatizing. My god, I thought that was a lot of money, in comparison to what I was making. Sit down with a quick spreadsheet though, and the truth was vastly different.
It didn't take long to realize that it was an incredibly insignificant amount of money, and that I could not live on that, let alone create a viable business. In my experience with independent consultants, most of them start off under-bidding themselves and charging far too little. It can be very difficult to justify to yourself the rate you have to charge. So, sit down and objectively look at the numbers, so you can understand them and explain them to both yourself and your customers. Remember, it's always easier to lower your prices than to increase them.
And what about pricing as the business grows? That's a whole different animal for another time.