Jim and Matt Hassett are writing an excellent series of posts about methods of billing for services at their blog, LegalBizDev. The second and latest post in the series: Cost-Plus Pricing.
Here is Wikipedia’s description:
Cost-plus pricing is used primarily because it is easy to calculate and requires little information. Information on demand and costs is not easily available, managers have limited knowledge as far as demand and costs are concerned. This additional information is necessary to generate accurate estimates of marginal costs and revenues. However, the process of obtaining this additional information is expensive. Therefore, cost-plus pricing is often considered the most rational approach in maximizing profits. This approach relies on arbitrary costs and arbitrary markups.
Notice the language there? Cost-plus pricing is a way to maximize profits and relies upon arbitrary costs and markups. Everyone wants to maximize profits in their own business, but as clients, we aren’t as excited about maximizing the profits of vendors. This is why value-based fees represent a more equitable solution to pricing service offerings.
As the Hassetts illustrate in their article:
Cost-plus may or may not be a good basis for setting prices. But if law firms want to stay in business in an ever more competitive world, they must ultimately charge at least as much as they spend. And that starts with understanding their costs.