Milestone-Based Pricing

What is Milestone-Based Pricing?

Milestone-based pricing is a model where payments are made at predefined stages of the project. Each milestone represents a significant portion of work that has been completed and approved.

By breaking down payments into milestones, both clients and vendors can manage risks more effectively. Clients only pay for work that has been completed to their satisfaction, while vendors have healthier cash flow and are incentivized to meet deadlines and quality standards.

This pricing model is particularly useful in industries where projects have well-defined stages or deliverables, such as software development, construction, and consulting.

However, it makes the most sense for complex long-term projects. Those with a shorter timeline (less than a month), limited features, and clear requirements probably won’t see the benefits of breaking payments into milestones.

Synonyms

• Milestone pricing
• Milestone billing
• Milestone payments
• Phased pricing
• Stage-gate pricing

Common Challenges in Project-Based Work

Project-based businesses assume considerable risk when taking on new clients. They need to balance the client’s expectations and budget with their own resources and profitability goals, and that’s assuming they pay on time.

If they require clients to pay upfront, they mitigate some of that risk. But, then it’s the client who’s left to trust the vendor will deliver the project as promised.

There are additional issues with scope creep, client indecisiveness, payment delays, and even project cancellations. Milestone-based pricing helps to mitigate these risks and provides a more equitable arrangement for both parties.

Scope Creep

When clients change their minds or request additional features that were not initially agreed upon, the project gets delayed and costs increase for the provider. That’s scope creep — the uncontrolled growth of a project’s scope.

With milestone-based projects, all payments and their respective deliverables have been agreed upon upfront. This means clients are less likely to request changes outside of the defined milestones, or that additional work can be added as a new milestone.

Even if your milestones use cost-based pricing, it’s easier to tack on additional costs as the client incurs them with a milestone model. With a fixed-price project, several things falling outside the project scope over several months would be a challenge to keep track of (and the client may not agree to pay for them).

Client Uncertainty

Indecisive clients make projects take longer because they delay feedback and approvals. Again, this comes with a cost to the provider. If they haven’t agreed on strict deadlines, project requirements, or payment timing, the provider is putting in lots of work without getting paid.

In milestone-based pricing, both parties have agreed on the timing and cost of each deliverable. If a client decides to cancel or delay a project midway, the vendor can rest assured that they will be compensated for the work completed until then.

This type of certainty is important in long-term projects where resources are dedicated to specific tasks over an extended period. It also protects vendors from revenue fluctuations caused by indeterminate timelines.

Delayed Payments

If a client doesn’t pay on time, there are serious cash flow problems. Vendors have salaries, subcontractors (if any), and other expenses they need to cover regardless of whether or not the client has paid them.

When payments are made at predefined milestones, vendors have a steady cash flow that helps them cover their expenses. Even if a client delays payment, the vendor has already been compensated for the work completed up to that point.

Customer Dissatisfaction

In any type of project-based work, the client bears some of the risk. They can’t pay for all deliverables at once and then ask for a refund if they’re not satisfied with the final product.

By breaking payments into milestones, clients have more control over their investment and only pay for completed work that meets their expectation. This helps to prevent fraudulent or unfulfilled projects.

Fraud

It’s worth mentioning that the milestone-based pricing model works best when the service provider and client have a solid relationship. When the two parties trust each other, they’re less likely to default on their commitments or file a dispute.

Project Billing vs. Milestone Billing

Project billing is the traditional method for project-based businesses. While it’s common (and certainly has its place), it’s not always the best option.

Let’s compare the two, when you should use them, and what their advantages are.

Project Billing

Project-based billing a billing strategy where the company invoices for work completed in a single project at the end of that project. There are no predefined stages, and payment is made upon completion.

In project billing, the company documents all the work done and the time they spent doing it. They note the expenses that come up during execution. The final cost is a combination of hourly or flat rates for the work plus expenses.

The main advantage to project billing is its simplicity. There’s no need to negotiate milestones or payment terms upfront, and there are no milestone deliverables to worry about.

Use project-based billing for:

• Small one-time projects (a couple of tasks)
• Short-term projects with a quick turnaround (fewer than 4 weeks)
• Projects completed by a single freelancer or small team
• Projects with minimal risk (simple tasks with defined scope)

Milestone Billing

As we’ve gone over, milestone billing is a billing strategy in which payments are made when specific stages or goals of the project are completed (milestones).

You agree on these milestones at the beginning of the project and tie the payment to specific deliverables. If the project is large and complicated, you can break it up into several milestones with corresponding payments.

Project managers like milestone billing because the client is incentivized to provide timely feedback and approvals. Payments depend on meeting the predefined goals, so they can’t defer decisions indefinitely.

That said, there are additional logistics involved in managing multiple milestones. Ahead of inking the deal, you and the client have to agree on a billing cadence, amounts, and deliverables.

Use milestone-based billing for:

• Projects with a clear workflow
• Long-term projects (over 1 month)
• Complex or expensive projects
• High-risk projects with potential scope creep
• Projects that require the client’s involvement and feedback at multiple stages

Benefits of Milestone-Based Pricing and Billing

Milestone-based pricing and billing have several advantages over traditional billing methods. Both clients and customers like the predictability of being able to budget for specific deliverables, and it can help foster a more productive working relationship.

Benefits for Clients

For clients, billing by milestone allows for greater visibility into the project’s progress. They have the power to verify that each phase is completed to their satisfaction before continuing with the project.

By spreading payments across project milestones, clients also have an easier time managing their cash flow and budget. Instead of having to pay a large sum upfront, they have relative predictability about when payments will be due and how much each payment will be. And they can plan alongside their monthly income.

Not to mention, milestone-based billing fosters better communication and collaboration between clients and vendors. Regular check-ins and approvals at each milestone ensure that both parties remain aligned on project goals and expectations.

Above all, paying in instalments based on completed milestones minimizes clients’ financial risk. They can halt payments if the project doesn’t meet expectations or if issues arise, reducing the potential for loss.

Benefits for Service Providers

The ultimate benefit of milestone-based pricing for service-based businesses is that they can maintain a more consistent cash flow throughout the project. Smaller, more frequent payments make it a lot easier to cover operational costs, project-related or otherwise.

Tying payments to specific deliverables motivates businesses to meet deadlines and deliver high-quality work. It encourages accountability, as payments are directly linked to performance and completion of defined tasks.

By delivering tangible progress at each milestone and aligning payments with these deliverables, businesses can build greater trust with clients. Since clients have more control (something they overwhelmingly prefer), satisfaction and retention rates are much higher.

From a project management standpoint, it’s also an effective deterrent to scope creep — it clearly defines project phases and associated costs upfront. Any changes or additions to the project can be addressed at the milestone level, preventing uncontrolled expansions of the project scope.

Applying Milestone-Based Pricing and Billing

Milestone-based models require adequate planning and communication to be effective. You can either bill by time and materials or use a fixed-price model with milestone payments. Or, you can use a micture of both.

Here are the steps you need to take if you want a successful implementation:

1. Break down the project into logical phases.

Project phases can be based on specific tasks, deliverables, or timelines. The point is, each milestone should represent a significant completion point in the project.

Let’s say you’re a web design and development agency selling full website projects. In that case, the phases could be:

• Discovery and project planning
• Design
• Development
• Testing and revisions
• Launch
• Post-launch support

Chances are, you’re selling a similar type of service or project-based work to each of your clients. It’s wise to use the same project phases for each of your clients — this makes negotiations and setting expectations a lot easier when working with new clients.

2. Estimate the costs for each milestone.

Once you have your phases, map out the corresponding tasks and deliverables for each one. Then calculate how much each milestone will cost to complete. This step requires an accurate estimation of time, resources, and expenses associated with completing each milestone.

There are a few different ways you can approach the estimation:

• Work breakdown structure (WBS) — Break the project into smaller, manageable tasks or components. Estimate the time and resources needed for each task individually. Then, aggregate them to get a total project estimate.
• Critical path method (CPM) — Determine the longest sequence of tasks you might have to complete on time for the project to finish by its deadline. Then, estimate the duration of each task on the critical path, considering dependencies and constraints to avoid delays.
• Three-point estimation — Use three scenarios — optimistic, pessimistic, and most likely — to account for uncertainty and provide a more realistic time estimate. Calculate a weighted average of these estimates to determine the final time estimation, considering risks and variances.
• Analagous estimation — Compare the current project with similar past projects to estimate time and resources based on historical data. Modify estimates to reflect any differences in scope, complexity, and context between the past and current projects.
• Expert judgment and team decision-making — Leverage the knowledge and experience of team members and industry experts to inform your estimates. Use methods like Delphi method to gather and refine estimates from multiple experts, reducing bias and increasing accuracy
• Reserve analysis — Allocate contingency reserves for identified risks and uncertainties. This ensures that you have buffers for unexpected events without compromising the overall project schedule and budget.

You can get a step ahead right away by understanding the project scope, objectives, and constraints early on in the sales process. Ask questions about the client’s goals, success criteria, budget, and timeline to refine your estimates​.

And remember the project management triangle — keep the balance between scope, time, and cost. Adjust one variable when changes occur in another to maintain project equilibrium.

3. Create a payment schedule.

The milestone-based pricing structure can be the best way to provide accurate forecasts and keep the relationship with clients smooth. Or, it can be unnecessarily confusing. Your billing schedule needs to be straightforward and easy to understand for both parties.

For simple projects, consider an upfront deposit to cover initial costs and a final payment upon project completion. This ensures the contractor (you) has upfront funds while the client retains leverage until satisfactory completion.

If the project involves multiple distinct deliverables or shifts of focus (e.g., a web design project requiring planning, design, and testing), separate the payments by milestone completion. These should be obvious.

Although you’ll deliver time estimates for each payment, avoid sticking to fixed payment deadlines. Instead, base the payment schedule on deliverable completion.

4. Agree on milestones with the client upfront.

If you don’t do this, you’ll have a hard time getting them to trust you. Clients want to know when they’ll receive the promised results, and what those results will cost.

When you’ve broken the project into phases and estimated their costs, share this information with the client. Don’t seal the deal with them until they’ve agreed to the project phases, costs, and payment schedule.

5. Solidify payment terms with a contract.

Every project — especially those with milestone billing — needs to be backed by a bilateral contract. It shields you from legal risks and provides a reference point for payment, deliverable expectations, and dispute management.

In addition to the six essential contract elements, your contract should specify the following terms, at a minimum:

• Scope of work
• Project milestones
• Payment schedule
• Deliverables and acceptance criteria
• Responsibilities of each party (client, contractor)
• Communication protocols and points of contact
• Change management process​ (more on this below)

To improve the contract management process, automate contract generation, negotiation, and ongoing management with a contract lifecycle management (CLM) system.

6. Manage project changes with change orders.

Changes are an inevitable part of running a project-based business. Even with the best planning and estimation, the client may request additional features or change their requirements mid-project. These changes alter your scope, timeline, and budget.

To manage these types of things effectively, use change orders. They help document and approve proposed changes before they occur. If something falls outside your company’s capabilities or policy, change orders also act as guardrails to ensure you aren’t agreeing to anything you can’t deliver on.

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