What You Charge When
I was participating in a quarterly board meeting recently when the topic of the business getting paid came up (so I immediately engaged). The leader of that business reported that she was contemplating changing the firm’s billing terms from 25% at the start of the job and 75% at completion to 33.3% at the start, 33.3% after a milestone midpoint, and 33.4% at completion and invited discussion and feedback.
My first question was at what point in both billing cycles did a job become profitable? The CEO thought about her margins and costs and said that under the first, a job is not profitable until it’s over, but that under the second a job would become profitable after the company received the second milestone payment. In other words, every job was unprofitable at some point in both models so if a customer lost interest, changed its mind, came under financial stress, or decided the milestone hadn’t been achieved, it could stick our business with a loss. And if a lot of those customers experienced something like that at once (remember a recession is coming), that loss could be substantial.
So I asked what it might look like to bill in such a way that it would be impossible to lose money on a job (i.e., the first payment would cover all costs) and if that would hurt customer conversion (since closing deals and getting paid is always a balancing act)? The CEO said, “Yeah, no, I don’t think so.”
To which I replied, “Then you might think about that.”
Remember that you only lose when the game doesn’t end on your terms. So by protecting this business from potential losses by making a small change to what it charges when that doesn’t impact customer conversion, it not only makes it more sustainable, but also puts it in a position to take more risk. And since a business needs to take risk in order to grow, now there’s more upside.
Of course, it’s always better for a business to get paid more money sooner, but it’s also true that here in the real world we can’t all expect to get 100% of what we expect to make before we earn it (though bully for you if you can). It is, however, very reasonable to try to calibrate your billings and payments in such a way that you are never subsidizing your customer.
Somewhat related, the relationship between the timing and amount of payments a business has to make is one reason potential tariff rate increases are such a deeply unsettling structural prospect for American small businesses. Because say what you will about income taxes, but no matter the rate, you pay them after you’ve made your money and in an amount relative to the amount of money you’ve made. Tariffs, on the other hand, must be paid before you’ve made money and in an amount that’s the same no matter how much money you stand to make. So a difference between income tax and tariffs, despite both being taxes is that while income taxes can’t bankrupt a business, tariffs can and will. Which is another good example of why it matters what you charge when.
See you Friday.
– Tim
