Pricing Resentment
Blair sees creative entrepreneurs opening themselves up to pricing resentment from their clients when the value of their contributions diminishes over time, especially when they've created significant economic value at the beginning of a long-term engagement.
Links
"Is Your Pricing Creating Resentment?" by Blair Enns for winwithoutpitching.com
Transcript
David C. Baker: All right, Blair, today I am interviewing you about, is your pricing creating resentment? [chuckles]
Blair Enns: I thought we could just broaden this out and just talk about all resentments. Let's have the airing of the grievances. You go first.
David: Oh, that is one of my favorite episodes.
Blair Enns: Of Seinfeld.
David: Yes. What's interesting to me about this topic, and I read your article, and listeners, this is based on an article called Is Your Pricing Creating Resentment? As I read through this, I thought, "Wait a second, I thought that performance-based pricing wouldn't create resentment because people hate paying for something that doesn't bring them results." If we say, "Okay, you're only going to pay for results, how in the world could that build resentment?" It was just interesting to see how those two things collided in my head.
Blair: The impetus for this was I got a note from a colleague who was running the idea past me of an advisory relationship where they would get paid a percentage of the revenue that they helped create over the course of the year. My initial reaction was, "That's too long." He said, "Well, why is it too long?" I had to think through it. I knew it in my gut, but I hadn't fully articulated it. As is my need, I had to write about it for me to understand why I knew it was wrong.
It wasn't until I wrote through it that I fully understand that the bottom line is the performance pay can work great, but I've seen cases, including some of my own engagements, not very many, but some of them where the way the deal is structured, if you do your job, you get paid a lot of money initially, and the client's generally happy to pay you that money, a lot of money initially. As things keep going, they forget the situation they were in before you arrived and saved them or took them to a new level of revenue. Then that creates all kinds of problems, including sometimes legal problems or the client just not paying. There, that's basically the episode.
David: Okay. We're done. Back to something you said. I don't think I understood that. You said in this scenario, a client might pay a lot of money at the beginning and the resentment might build later. Why would they pay a lot of money at the beginning and be happy with that if this is performance pay?
Blair: Imagine somebody's got a problem and they've invested money with different providers to help solve the problem. Let's say it's a revenue problem. It could be lead generation. Like in my world, it could be lead gen or it could be closing, could be average proposal value, gross margin. They've got a problem. They've tried to solve it. They spent a bunch of money a few different times. They don't want to spend money on the problem again because their experience says nobody can solve this problem.
Then along comes somebody who says, "Listen, I can solve your problem," and they think, "Yes, that's what everybody told me, and nobody solved it so far." This new expert says, "You won't have to pay or you won't have to pay much until I solve the problem. How does that sound? I understand, based on your experience, you think I'm not going to solve the problem, but I'm willing to take that risk. If I do solve the problem, you're going to end up paying me more. Are you okay with that?"
The client says, "If you can do it, I'll pay you that much money." It's a deal that makes sense at the time. It sounds fantastic. When the expert proves that they can indeed solve the problem, unless it's a massive amount of money, usually, that first payment the client is okay making.
David: Oh, because they see the future, or they assume this future out here, and they're happy with it, like this is a new solution to something. I'm trying to think about how that relates to-- You remember that I had a TBR package, a Total Business Reset package. I forget what I called it, but it was the super package.
Blair: Where somebody could follow you around? That one?
David: That was a different one, yes. That was a disaster, too.
Blair: A different super package.
David: That was a different disaster.
Blair: That was the super duper package.
[laughter]
David: No, this is one where you paid a fair bit more money, but you got a lot more from me. The catch was that for me to make a lot of money, I had to really impact your situation, which was essentially performance pay. The only way to really measure that was to wait for a whole year. I had two clients take me up on it, and they were happy to do it, but one of them refused to share their financials with me at the end of the year because that's how I would have made more money.
The other one fell apart where I was too eager to take it. I wasn't choosy enough because I thought this would be really great. I guess the point is that it's not necessarily a panacea. It comes with pros and cons around all of it. What got you to writing about this? Was it whining about hotel breakfasts or what?
Blair: [laughs] I opened the post talking about how expensive everything is. No, it was that example of a colleague who was in that situation. My point was, there's some nuance here. In the situation where I was advising somebody, in the post I wrote about myself as an example, and this person's business is close enough to my own that we could pick either one. In the example of the engagement that this person was considering pricing on a performance basis, there was a hefty amount of knowledge transfer going on in the engagement.
We could talk, we could do a whole episode on knowledge transfer. Knowledge transfer is a form of value that is typically undervalued and underpriced by the expert who's offering it. The client really values it, and they're rarely asked to pay for it. Now, in my business, I run a training business that is effectively a knowledge transfer business. We don't do things for you. We teach you how to do things.
Now, if you're an expert, let's say practitioner advisor, where you're going to go into your client's business and you're going to do something for them that will increase revenue or decrease costs, if you do it yourself, you could do that on a performance pay model. If by doing what you're doing, doing the practitioner thing, you are also at the same time advising your client or in some way enabling some knowledge transfer, creating a situation where every time you close a deal, the client has a better understanding of how to do what you're doing, at some point they no longer need you.
In this example, where I was advising a friend of mine, the first maybe couple of months, I was putting myself in the client's situation, thinking, "Okay, the client will probably happily pay you on a performance pay basis for the first, let's say, quarter." After that, they're going to see what you're doing, they're going to learn how to do it themselves, and they'll either say, "No, no, I'll do it myself," or if there's something in the contract that says they're locked in for a year and they have to paying you on this basis, they're just going to quit paying you.
They're going to break the contract because now they're looking at what you're doing and thinking, "You're no longer creating value the way you did because you also created this other form of value, which is knowledge transfer, which means I don't need you to do what you're doing. Therefore, I don't want to keep paying you the way I've been paying you." Does that make sense?
David: Yes. Using that definition, the people listening to this, the folks running digital shops and agencies and so on, they're not in the knowledge transfer business primarily, right?
Blair: They're not, but I would ask the listener, how many situations have you been in where the client has internal resources and they bring in an outside expert like you because their internal people don't know how to do this particular type of thing? In how many of those situations, by the end of you doing this particular thing, maybe just once, maybe once or twice, does the client then say, "All right, that's good enough, thank you, we'll take it from here because our people can now do this?"
That is knowledge transfer, whether it was intended, whether it was overtly priced or not. That's a form of knowledge transfer that I would suggest happens a meaningful amount of times whenever the agency's client has an in-house department that can also do what they do.
David: Ah, right, right. There's some interchangeability, whether or not it's true in the client's mind. There is, yes. We can see this happen in relationships as well. It's like, "You're only successful because of me." Both parties are overestimating the role that they had in creating this. I guess performance pay would be easier to do if the results were very clearly attributable to either party. You're not saying people shouldn't do this. You're saying that it should be structured in a way that takes timing and reluctance and overconfidence and all of that into account, right? You're just saying think about it carefully, not don't do it.
Blair: Let's put ourselves in the shoes of the sales and marketing advisor again. They're going to increase the top line through their efforts. Let's say they're a fractional person going to work for an agency and they're getting paid on a performance basis.
David: And they're doing new business?
Blair: Yes, they're doing new business.
David: Okay, yes.
Blair: Let's say it's a Win Without Pitching coach going in. We don't do this, but let's say it's a Win Without Pitching coach going in and doing business development on a fractional basis, and they're getting paid a small salary and performance based on outcomes. I talk about how if you have a black box solution, you can get away with this for longer. In this analogy, the coach is showing up and working their Win Without Pitching magic and closing more business at higher prices. The senior people in the agency are observing, and they're learning as this person goes.
There's knowledge transfer, whether it's intended or not. One way that person could protect themselves and continue to earn on a performance pay basis is if the whole thing was a black box. What I mean by that is the client can't see what's going on inside, which would mean that the fractional business development person would not only not include the agency principal or any senior team members in the deals, in the sales, they would purposefully exclude them and not show them how they were working their magic. Does that make sense?
David: Right. So that if they stopped that engagement, then the new business would stop, and they would have no way of replicating it.
Blair: Yes. I'm not sure about the black box approach. I put it in there because it occurred to me that if you did have a black box, then there's no knowledge transfer in a black box. I don't know that that's the case for a black box approach to these engagements, where it's understood that you're not going to reveal your secrets of how you do what you do to your client. Does that pass any kind of litmus test for you?
David: It raises the hair on my arm, honestly. I don't know if this is the right approach, but it definitely is the approach I take, and I feel really good about it, and that's the advice I give my clients all the time. The client is not the enemy. Your job is to get the client to the point where they don't need you anymore.
At the heart of that premise is, "No, we're not going to hide things from you. We're not going to make ourselves indispensable. You'd have to have a different approach to performance pricing if your approach is to not hide anything and to get the client to the point where they don't need you anymore."
Blair: Yes. I think both parties are better off if they have an open discussion about knowledge transfer. Even this fractional person, let's say that they go in and they've got a one-year agreement. They might structure the first quarter or, say, maybe the first half of the year. Maybe you could argue that that's not enough time in this domain of agency business development. Maybe it's another domain where a fractional salesperson can have a quicker effect.
Let's say it's performance pay over the first quarter or two quarters, and then there's an open discussion, an acknowledgement that the knowledge transfer will take place. I think the expert would position the engagement in a way that says, "It's going to start out with me doing it myself, and I'll get you to the results you want to achieve. If I do, you're going to pay me a percentage of those results as per this formula. At some point, when we get far enough into this, you're not going to want to keep paying me that way. You're going to want me to teach your people how to do it."
The second half of the engagement is about knowledge transfer, and the incentive portion of the agreement tamps down. Maybe the committed compensation part in the form of salary or monthly fee to the expert goes up, maybe it doesn't, but there's an understanding that you're going to pay me a lot of money early, and then that's going to ramp down as I ramp up your internal capabilities. If that's the way that the value creation is going to work in your engagements, then you should break this box or this model of thinking, "I do it one way for a long period of time, and I get paid the same way."
My second book, which is now out of print, Pricing Creativity, it's called Pricing Creativity for a reason. That double entendre of how do you price creativity, but also the creativity of pricing. I think we should just be more creative, open-minded about how we price these engagements, and the sign that you're creating resentment. As I point out in the post, resentment only arises in your existing client relationships. You don't lose deals because of pricing resentment. That doesn't show up as resentment. It shows up as lost deals.
Resentment builds in existing relationships that started out pretty solid, where both parties thought the agreement was fair, and then at some point, one party thinks, "This isn't fair. Things have changed." What's usually changed is you front-loaded the value in the engagement. Your highest value was at the beginning, and you're continuing to get paid the same way even though the value you're creating is dropping. The reason your value is dropping might just be because you've now shown your client how to do what you do.
David: Yes, it's just those lines converge. It's not that you have failed somehow in delivering value. It's just that you haven't recognized that these lines, how you price and how much value you deliver, they're moving apart, and the client's going to notice that. One of the statements you made in this article was, "I should have structured the deal so that my pay was highest when my value was." Another way to say that is the value and the price needs to move in concert over time. That's part A of what I wanted to say.
Part B is when I read this article, the most striking thing about it to me was something that was missing from the article. I fully expected you to say something about recurring revenue arrangements, and you didn't. I want to tie that together with this statement that I just read, "I should have structured the deal so that my pay was highest when my value was."
There's a lot of great reasons to do recurring revenue arrangements. I'm not completely against them. I just think that when they go bad, they go bad really badly. I think one of the reasons they go bad is because the payment is always on the same day of the month, but that's not necessarily when the client is feeling the most value that they're getting. When's the best time to send an invoice to a client?
Blair: Right after they say thank you for the great job.
David: Yes, exactly. Those two things don't match. When the client gets this bill and they're immediately prompted to think, "What have they done for me recently?" I don't feel the same way about them that I did earlier, and then they start looking for reasons to reevaluate the relationship. I just think that's part of it because the lines move in different directions at certain parts of the month.
Blair: Yes. In some ways, the broader topic here is the disconnection between your price and the value you're creating, and not a gross disconnection, but how they depart from each other over time. I'm doing a talk tomorrow to a group of PR firms. It's a podcast on a PR podcast. I did one for these guys recently. When we were wrapping up, one of the hosts made a comment about a deal they were closing. I forget the exact details, but I made the cheeky comment of, "Aha, you took the client's budget and divided it by 12, right?" They laughed sheepishly and went, "Yes." I said, "That's it. Everybody does. PR firms do that all the time." He said, "Can you come back on the show and talk about that?"
That's what we're talking about tomorrow. It's the same idea. It's a client's got a problem. Let's say it's $120,000 budget to solve the problem. They don't want a relationship. They bring in a few PR firms to talk about hiring one of them to help them with the problem. Every one of those PR firms takes the $120,000, divides it by 12 to get $10,000 a month, and stretches the engagement out to match their pricing model.
David: Yes. Like you say, match compensation to value creation, which is absolutely true. We could also add a little note to that and say, and the timing needs to match, too.
Blair: Yes.
David: When I had to work with an attorney one time, I was in trouble, and he said, "All right, we can start this for $10,000." At the time, $10,000 was a whole lot of money to me. I didn't have any choice, and I was happy to pay it because I felt like, "Man, if I didn't have this guy's help, I was really going to be in trouble." Sure enough, he saved me and everything. It was the timing, not just matching the price to the value.
Blair: Yes. This is a tangential topic, but I love the way attorneys do retainers. I think people who are in the retainer business should think about it this way. It's, you give me a chunk of money up front. If you're going to sell time, you shouldn't sell time, but if you're going to sell time, you should do it this way. You give me a chunk of money up front, I'll start working away. When that pile of money is getting low, I'm going to come back to you, you give me another pile of money. They are never chasing bad debt.
David: No.
Blair: That's the way to do retainers.
David: If they have to come back to you and ask for a second batch of money, you're only going to pay that if you felt like you've gotten value over that first batch of money, which is fair.
Blair: Yes. That's the lesson: Align your pricing in time to the value that you create. Performance pay can be fantastic. Just be aware of getting a little bit greedy in those performance pay terms where you're proposing to get paid past the point where the client actually appreciates that value.
David: Yes. The second lesson is, lock the door before your rude Great Dane comes in and destroys your recording. [chuckles]
Blair: What does Frida weigh?
David: [chuckles] 160 pounds, [laughs] and she's taller than me. Her head's above my head when she's standing.
Blair: Thank you, Frida. The 3Bobs.
David: All right. Thanks, Blair.
Blair: Thanks, David.