Over the last few years I’ve worked with a number of organisations who’ve had to make the shift from receiving grants to winning contracts, and one of the most consistent challenges has been changing the way they think about costs.
Full Cost Recovery (FCR), the basis of most grant funding applications, is based upon adding up all those less-obvious costs associated with the things we charities do, to make sure we get paid what something really costs, not just what it appears to cost. For instance, FCR recognises a one hour home visit isn’t just the cost of the person doing the visiting, nor just their travelling expenses, national insurance and pension contributions; but it includes an appropriate portion of the cost of the whole infrastructure – the organisational machinery – that makes that visit happen, makes it safe, and ideally, makes it more effective tomorrow than it was yesterday.
If you’re grant-funded, and being paid for the inputs you’re providing rather than the impact you’re making or the value you’re adding, then FCR may still be for you. But if you work on a contract-based model, if you want to innovate, expand and improve what you do, and if you want your organisation to get properly compensated for the unique value and expertise it provides, sticking with the full cost recovery mindset will do you a lot more harm than good.
That’s because, outside of grant applications, full cost accounting has one use, and one use only: to tell you whether a particular price point or fee model will make or cost you money. You should use it to review your activities on a regular basis, to help you decide what you can afford to do, and most important of all, what you need to stop doing. As I wrote in my Third Sector column last month, stopping doing stuff is one of the hardest decisions we face and the one we most often shy away from, but it’s the one area that full cost accounting can help to bring some objectivity.
What you absolutely shouldn’t use it for, are the two areas where I most often see it used: setting your budgets and setting your prices.
When you give someone who might be managing a region or a programme, a budget built on a full-cost model, including their share of the IT costs, the HR costs and the like, it puts on their plate things over which they have absolutely no control. It creates tensions and fosters pointless debates like: “Could we get IT for our office in Scotland cheaper if we went externally?” Trust me, you can’t. Furthermore, it takes the spotlight away from the real question: “How much do we spend on IT, and how much should we spend?” I see full-cost budgeting all the time, it’s invariably counterproductive and it’s really easy to stop.
The pricing shift is harder to make, but the value is far greater for those that make it. There are two key principles:
- Your fees should be based on the value of the work you do compared with the available alternatives; they are never based on how much it costs you to do it.
- Your costs should be something to check your price against towards the end of the process; they are never your starting point.
Being paid simply for the hours you work rewards inefficiency, and incentivises your customers to put you through increasingly competitive negotiations to try and make you more efficient. Conversely, where price is based on the value you deliver, you’re automatically incentivised to deliver more of that value in the most efficient way possible, and you’ll secure future work by sharing some of those gains with your customers. It’s a complete shift in mindset, both for you and for your customers, the first step of which is to stop using costs as the starting point whenever you talk about price, internally or externally, and instead to start with customer value.
FCR might still be fundamental for grant-funding, but it’s a pretty poor model for just about everything else. And now that less and less of our work is grant funded, it’s time we let go of its counterproductive legacy for good.