by Alberto Aleo
One of the questions that our clients, especially young freelancers, ask us most often is how they should calculate the price of the service or product they offer. Knowing how to determine the price is the first crucial step to recognising your market value. Many freelance professionals and salespeople are not very good at presenting and defending their price because they are not fully aware of how to put together a quote or estimate. This article gives you a simple step-by-step method to help you calculate the price of your work.
Photo Stellrweb by Unsplash
Being a freelance professional means you have chosen a different working style, which requires you to combine your private and professional life. Every moment in your day is filled with mixed activities, which belong to one world or the other. Even the tools you use for work, such as cars and computers, have this “mixed-use” character. Therefore, to begin to calculate the price of your services, you need to consider the “costs” that arise in your everyday life.
Creating the ideal “work-life balance” involves making a list of your fixed expenses, in other words, the expenses you have to pay on a yearly basis, either for work or to maintain your standard of living.
These expenses range from housing, food and possible equipment costs, recurring expenses like bills and fees, and refresher courses, as well as everything else you need for a full and satisfying personal life. This list of recurring costs is comparable to the “fixed costs” of a company’s balance sheet. They are called fixed because they are not directly linked to “production level”, that is, they are not dependent on how many services are sold. For example, even if no client asks to come to one of our courses, at Passodue this month we will still need to make car payments! You can also add the implicit cost of your own salary to this list, by imagining that you give yourself a monthly wage.
Photo Alvaro Reyes by Unsplash
Now let’s examine another type of cost: variable costs, which are directly linked to production. If it costs money for you to provide a service to a client, money which you otherwise would not have spent if you had not sold that service, then those expenses are called variable costs. For example, in our case, when we organise a training course, we have expenses to cover the cost of renting the room, printing materials and lecture notes, hiring assistants, etc. When you deduct the variable costs from the sale price, you get what is called the contribution margin, which is the margin that the single sale of a single product or service generates.
Price – Variable Cost = Contribution Margin
The term “contribution” means that this margin will contribute to the payment of the fixed costs calculated in the previous paragraph. By adding up all the contribution margins generated from the sale of your services, you should, at least, be able to cover your fixed costs. If the sum total of your contribution margins exceeds the total for your fixed costs, you have a profit; otherwise, you have a loss.
The total of all contribution margins – fixed costs = profit or loss
Calculating your Price
Now let’s look at calculating your price.
To deal with this step, we have to ask ourselves how many services we are capable of providing and selling in a year, whether they are projects, courses or consultations.
To do this, you will need to think about the main types of services you offer, and then estimate the average number of hours necessary to deliver them, which should also include any in-office preparation time required. Now, calculate how many hours a year you can devote to work, taking into account that you will need to allow time for professional development, leisure and family.
For example, Alice and I have calculated that the time required to prepare and provide our services in Italy is equivalent to approximately 2,000 hours per year. The rest of the time we spend abroad, or we focus on sales and marketing, the management of the blog, our own professional development or our personal lives. To find out what your production level is, simply divide the average time required to provide/produce a service by the number of hours you have available during the year. Once again, in our case, let’s assume for the sake of simplicity that the average duration of a consultation/training course is 20 hours. How many consultations/training courses could we sell in a year? 2,000 / 20 = 100. So 100 is our production level. That means if we sell 100 services, we should be able to pay the fixed costs of the business and potentially make a profit.
The final step is to take your fixed costs (calculated in the first paragraph) and divide them by your production level: this will give you the contribution margin you need for every single sale.
Fixed costs / production level = required contribution margin
In line with what we said in the second paragraph, you can calculate the base price of your services as the sum total of your variable costs plus your required margin.
Base price of service = required contribution margin + variable costs
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However, it is important to note that this refers to the base price only. If you were to sell your services at the price calculated above, you would be able to cover all your expenses (fixed and variable costs) but you will not make a profit: in other words, you will just break even. If you want to generate profits, you need to raise either the price or the production level.
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Photo Adeolu Eletu by Unsplash
The calculation provided above is of an economic nature, and specifically refers to our situation only. You will still need to take the market into account, which means you will need to compare your price with that of your competitors. If your price is not in line with the market, you will need to make some changes. Either decrease your costs or increase the client-perceived value of your service. On this last point, please take another look at the article on Pricing strategies.
Is it really all as simple as that? There is still one more step, and that is defending your price in a real business negotiation: we suggest you read our article on salespeople and pricing.
PS: Thanks to our friend and expert financial consultant, Canzio Panzavolta, for supervising this article.
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