Know the cost or pay the price

Ask any number of financial planners to explain the process they use to come to decisions about how they price their services and a good percentage will say their process could be better. Understanding your cost to serve is absolutely critical when it comes to determining minimum fees for your services. It’s also a must in the “brave new FoFA world”.

It’s fair to say that one of the basics of running a sustainable business is knowing the cost of providing each service you provide to each of your clients. Once you know that, you can determine what to charge to achieve your desired profit margin.

That rolls off the tongue nicely and if it were really that simple, then probably most businesses would have done it. But since they haven’t, the assumption must be that the perception is that it’s all too hard. A brief article such as this can’t deliver a detailed, step-by-step solution. So the intention is to provide an overview of what’s possible to encourage readers to at least start the journey.

A good cost to serve process will help businesses identify the:

• Cost of providing each component of each service and appropriate allocation of tasks in the process chain;
• Cost of providing services to individual clients, and to client segments;
• Capacity to deliver services based on existing resourcing; and
• Additional capacity that exists to introduce new clients into the business.

It’s really the first step that tends to create the most angst. Most business owners find the idea of mapping out processes, identifying who does what in delivery of specific services and working out the cost of those activities unappealing to say the very least. And it’s true it’s not the most fun you’ll ever have in business. After all, we’re talking here about examining processes in detail.

You need to know, for example, who’s phoning clients to confirm appointments, how long the average conversation takes and how much that staff member gets paid if you’re going to figure out how much the call costs. If you ponder for a moment your own business and how much “stuff” is involved in your service delivery, you’ll see the point.

So, the tip is to get all your staff involved in the exercise. They’re the ones who know what goes on behind the scenes every day. Also don’t overlook the benefits of external help with this – someone who’s gone through the exercise before and has the tools to reduce the tedium.

So much for the inputs. Let’s have a look at the outputs. The minimum fees that need to be charged to cover servicing costs plus the desired profit margin will probably come as a surprise and be higher than expected. On it’s own, that won’t mean much. Things change when the focus shifts to what clients are actually paying.

Some clients will be paying their way. Some, though, may be paying fees that are significantly above the minimum required - maybe more than the fees being paid by others receiving similar services. Decisions need to be made about these situations with the obvious question being whether or not reducing fees is an option.

Other clients will be paying less than the minimum required. Every business has them but in the absence of a cost to serve exercise probably can’t prove it. When you know for sure, it’s easier to have the conversation with those clients about the need to increase their fees. Of course there are some who won’t wear an increase so that’s decision time again. There’ll also be some adding value to your business in other ways – most notably through referrals – where you’ll be happy to leave things alone. There’s likely to be a few that you’ll end up referring somewhere else.

As well as dealing with individual client pricing, a cost to serve provides much more concrete data upon which to make client segmentation decisions. You’ll have complete visibility of costs and much better insight as to the relative profitability of the services you offer. This means more clarity around decisions about service packages and pricing. Also, it makes you more confident in stating your fees since you have the detailed knowledge you need and can more readily articulate value.

Undertaking a cost to serve in your business is critical if you want to be transparent in pricing your advice. As mentioned earlier, it will also help you meet your obligations under FoFA.

About Doug Webber

Doug Webber is founding co-director of BusinessBlades Pty Ltd and 83 Consulting and is a former head of advice at AMP Private Wealth Management.