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Whether you are freelancing or your company is offering a contract, it is very common to charge by the hour. Yet:

  • The customer wants a result within a reasonable time for a reasonable price. Whether it was achieved within ten minutes after two weeks of other more urgent work or by two weeks of all-nighters is irrelevant to them as long as they get what they asked for.
  • If you bill by the hour, you may have to bother justifying "sharpening the saw", or may end up being asked to perform unethical practices such as modifying the claimed purpose of the hours by your supervisor.

I understand well that especially for a big project it might be impossible to sufficiently well predict the required effort, but one can break down the desired outcome into multiple smaller billable units. But is there any point in making these estimates transparent and thus open for unnecessary discussion?

Maybe just billing by a previously agreed upon (intermediate) result is not perfect, too, so what are viable alternatives to billing by the hour?

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    "What are the alternatives?" Make a fixed contract for the work to be done with an agreed upon price. Any changes that happen afterwards (e.g. increase in scope) need to be agreed upon, along with the adjusted price. – Brandin Sep 14 '17 at 8:41
  • @Lilienthal Right you are, I threw out the irrelevant chit-chat. But I don't think this only applies to Freelancing, since companies also bill external projects often by the hour. Though I wouldn't mind migration, if you think it's a better fit there. Concerning bias, I'm not sure how to mitigate it. One might turn the question into a discussion of "Pros and Cons of different billing models", but I'm afraid that would be too general – Tobias Kienzler Sep 14 '17 at 9:09
  • @TobiasKienzler Thanks for making the changes, reopened. It's on the edge of being on-topic here I'd say and I certainly wouldn't unilaterally migrate it, but it's something you can consider should it end up being closed by the community. – Lilienthal Sep 14 '17 at 10:09
  • I've been working as a consultant / contractor for 20 years and I have always billed for a 'business day'. Generally eight hours - some are considerably longer (where there are critical issues) and with a reasonable client some are shorter to make up for that. – Christian Palmer Sep 14 '17 at 10:42
  • @ChristianPalmer: I think that's the best compromise. It's impossible to pay 100% fair. A 100% fair pay would also include discounts for days when yesterday's Quattro Stagioni was too huge, causing subpar performance; it would include bonuses for good days. It would include the latest neuroscience measurements to see when certain thoughts were ignited, etc. etc. One has to find a compromise that maximizes happiness in the customer and the contractor. Contractors need to sell themselves, after all. I remember almost every single time when my favourite car mechanic said "That's for free!". – phresnel Sep 14 '17 at 14:05
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There are three important keys to any project:

  • Cost
  • Time
  • Quality

Part of project management is figuring out how to balance those priorities properly for the specific project.

Cost Plus

Cost plus is a favored billing strategy for when the most important thing is getting a completed project especially where you need flexibility to make changes mid stream, and the work is going to be done by an external team. This may be an team in another part of the company, or less commonly an external vendor. It is also a favored method for contract companies when dealing with the government due to shifting requirements, and payment on deliverable requirements.

The upside here is the flexibility to make changes to the project midstream with out having to renegotiate the contract, and often it is only payable if the deliverable meets the requirements, so there is no out of pocket cost if the project fails to deliver.

A big down side is there is no incentive for the consulting company to keep costs down. In fact they are rewarded for doing the most they can to meet requirements.

Fixed Price

This is a technique where the final price and timeline for the project is set before work on the project is started.

If you have a good negotiator and a solid set of specifications for the project this is the route to go. The down side of this method is there is little to no room to make changes in the middle of the project.

Internal Consultant

This is basically hiring a temporary employee with out the overhead and hr issues. Typically the consultant is managed by someone in the contracted company but they work to your direction. The work they do belongs to your company.

This is great if you have strong project management but are lacking some specific skillset and/or manpower for a project. This can be a short or long term engagement where the consultant does work as part of your team, and you pay a set hourly rate based on a contract.

The down side here is you are responsible for managing the work of the consultant and making sure they are productive. You can reduce their productivity greatly by loading them up with meetings, and overhead tasks(like reporting, answering email, and required training). But when well managed a consultant can be a huge benefit to a time crunched project.

External Consultant

This is similar to an internal consultant with the exception that the work is done outside of your office. Typically an external consultant will not bill for the overhead tasks like email, staff meetings, etc. But the consultant is also managed by the external company. It also allows the company to allocate its resources to best fit the needs of your project. So you may be able to get the services of several different professionals on an as needed basis.

This has the draw back of you are allowing the consulting company to manage how the work is being completed. These resources are not available to your company to pull into meetings, or help on an emergency. The rate for this type service is also usually higher because you are only being billed for the time they work on your stuff. But if your office has a problem with impromptu meetings, and other things popping up that push timelines out, this can help keep a project on track as well.

  • The internal consultant route sounds like it could be considered disguised employment by the tax man – Neuromancer Sep 14 '17 at 16:18
  • @Neuromancer - Has been in some cases (IE articles.latimes.com/2000/dec/13/business/fi-64817) there are important things companies do to avoid that. – IDrinkandIKnowThings Sep 14 '17 at 16:57
  • That depends on what the IRS or HMRC decide is employment can you afford to fight it in court – Neuromancer Sep 14 '17 at 16:59
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    @Neuromancer - Perhaps but its a very common arraignment in the US. I have clarified abit how they are managed because it sounded clunky let me know if that helps clear it up. – IDrinkandIKnowThings Sep 14 '17 at 17:03
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Why I used to Freelance as software-developer, I had a client who wanted fixed prices. I would offer this, on the condition that a sufficient task description was available. It told them that I basically estimated the hours and put a 20% security margin on top of that. They where happy with it. I was happy, because I did not have to deliver a work-record, just the product.

So yes, there are viable alternatives and they are not at all uncommon.

Other alternatives like profit sharing etc. may not be that common but they do exist also.

Also, I understand that when building a house "off the shelf" those kinds of offers are quite common and are only adjusted for "extras" that come up during the building period.

  • Your first paragraph is the most common, viable option. – Mister Positive Sep 14 '17 at 11:21
  • What happens when the client wants more than the description, or reads more into the description than you did (e.g. add this or that feature; change the appearance of this or that). – Brandin Sep 14 '17 at 12:09
  • Fixed price does have its caveats. It requires a knowledgeable estimation of risk so that you can correctly decide on the level of margin. I recently had a fixed price contract where I estimated the risk to my best ability. Unfortunately a 3rd party commercial hardware product that I was basing my solution around (and had not used in the past) failed big time to deliver what it claimed. I spent more time diagnosing issues than I did on the actual integration of the product into my solution. (and in the end I dumped that vendor and went with another one) – Peter M Sep 14 '17 at 12:14
  • @Brandin: If the client want´s more or does read considerably more into the description, he´ll have to pay up. I usually inform the early so they can decide if they want´s to stick to the cheap version. For smaller discrepancies I have to stick to the price and deliver anyway - hence my "security margin". In Germany this approach is actually covered by the law. As I said sufficient task description is crucial for this. Also, it helps if you know the client a little bit - would not recommend this as first project for a new client or with new technology. – Daniel Sep 14 '17 at 12:41
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Realistically, and in practice, there are only two options:

  • You are paid for your effort (by a unit of time)
  • You are paid for the result

Paid for effort is best, for everyone, when the actual effort is unknown or difficult to predict. With this model, you are not at risk of being shorted and the customer can accurately, and continuously evaluate the ROI of the effort.

Paid for results is best when the effort is predicable, not estimateable but predictable. The prediction should be made on past, repeatable performance.

Examples:

  • New ERP: Bill for effort since no one, no matter what anyone says, has no reasonable way to predict the actual effort.
  • Setup 10 new PC's: Easily predictable since it's been done, literally, millions of times.

For clarity, the composition of the project, Agile, Waterfall, Milestone, Current Trendy Method, don't make much difference.

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Here's a simple approach:

  • If the client wants ability to modify the scope at-will, you must charge by the hour, and it takes as long as it takes.
  • If the scope is fixed, THEN and ONLY then can you charge a fixed price. You should break it into "milestones" because you don't ever want to go the full span of a project with no money in your pocket, to find out in the end that (a) the client CANNOT pay you, or (b) the client CAN pay you, but you're going to have to prod, chase, poke, scream, or sue to get your money. Please, please don't underestimate the value of milestones for fixed price work, because you can go over to the Freelancing Stack Exchange any day of the week and see questions people who've burned themselves by not taking that approach.

Additionally, I learned a good maxim from a former supervisor. He said that when it comes to project work,

"Fast (turnaround), cheap, or good (quality)? Pick the two that are most important to you, because you won't have the third!!"

Hope this helps.

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Judging from how you posed your question it sounds like you're reasonably intelligent fellow. Perhaps you should consider building a spreadsheet with formulas that will calculate project's cost based on amortization of resources, time spent, cost of the tool Etc.

I understand the ethical dilemma which I sometimes face but that's the nice thing about being independent because one can create pricing structures with margins that make sense for one's costs of doing business.

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