Fixed Price Quote Vs Cost Plus Quote… A story
How do you manage pricing your jobs? Do you prepare a fixed price quote or do you give an estimate but provide your services on a cost plus basis? Which is best? Which is the right way to do it?
I daresay you won’t be surprised to hear that I have a strong opinion on the matter and you probably won’t be surprised when I tell you what it is.
Firstly, I’ll compare the two and why people prefer one to the other.
Cost Plus Pricing
With cost plus, you give your customer an estimate of the cost of the job (or you might not, it’s not necessarily part of the deal) but what they pay is how long it took at your hourly rate and materials and subcontractors plus your margin. It’s sometimes called ‘Time and Materials’ or ‘Hourly Rate Work’.
People like doing work on this basis because you’re unlikely to lose out – the job takes as long as it takes and you charge that to the customer. They pay for your time and for the materials used and it’s all fair and reasonable. In fact, as far as pricing goes, it feels like a low-risk way to manage things. It’s especially attractive if the job is difficult to price, isn’t it?
You don’t have to commit to a price and risk that the job takes longer than you allowed and you end up losing money. (I’ll come back to this in a minute).
Fixed Price Quoting
Fixed price quoting on the other hand has you commit yourself to a fixed price for the job. You have to estimate how long it will take, allow for how much stuff you’ll have to buy and how much you’ll have to pay any subcontractors and then, commit to doing the job for that amount.
It can be terrifying, particularly if the job is difficult to estimate. If there are unknowns or things that could be discovered as you do the job then that could end up costing you more money (without you being able to charge more money).
Recommended Reading: Price Vs Risk Series
The Pros And Cons
Which is the right way to do it?
Fixed price quoting, every time. And I mean every time. There’s no situation where cost plus is a better way to price a job. There’s only your fear of getting it wrong or of something raising its head and biting you in the arse.
Fixed priced quoting is the right way to do it. It brings certainty to the situation – as much as is possible, given the situation. It brings certainty, with certain conditions.
Cost plus, on the other hand, brings no certainty – it’s a bit like asking how long is a piece of string, isn’t it? It’s as long as it is.
With fixed price, the risk is on you – you’ve committed to doing it for a fixed price and if you got something wrong, bad luck you.
With cost plus, the risk is with your customer, isn’t it? You’ve given an estimate because you’re nice, but if you’re wrong, it’s the customer’s problem – they have to pay.
The problem, of course, lies in the communication of this. It’s rare that a customer hears an estimate and understands the difference between that and a fixed price quote. It’s common for documentation to be a bit loose or almost non-existent.
So you’re thinking one thing and the customer is thinking something a bit different, maybe.
Mostly, this is fine but it leaves the door open for things to go horribly wrong, for disputes and ill-feeling, work getting done and not paid for, all that.
Which brings me to my story (I promised a story, remember?).
It shows how it can go wrong.
I have a client, a builder. He built an extension and renovation for someone on a cost-plus basis. They had a budget of $400,000 and his estimate for the job was about that. He was careful to point out to the customers that, if, once they started work, they uncovered anything unexpected, there would be additional costs. They understood (or they said they did). [You can see where this is going, can’t you?]
Sure enough, cladding came off and rot or termites or something were found. A plan was discussed and the remedial work was done, all agreed but when they got closer to the end of the job, the customers started to run out of money – there was more work still to do than they had money to pay for.
The customer was still wedded to a $400,000 build, despite open communication about the extra cost. It didn’t end well. No testimonials from those people.
A fixed price quote, with rules about variations wouldn’t have solved their budget problem but it would have made the problem obvious sooner and in writing. A solution could have been found before work was done and money spent.
I’ll talk about how to manage a fixed price quote properly another day – this is long enough.
If you’re quoting and working cost plus, please stop – move to fixed priced quotes for a fixed scope. You won’t regret it.
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See you later.