How to Boost Team Productivity and Increase Your Agency’s Margins

Posted   Productivity

At first, consulting seemed like a great business opportunity.

With operation costs low, your small team of a few consultants was firing on all cylinders.

Perhaps your numbers looked something like this:

 

Expenses/mo.………………………………………………………………………
Payroll (for 4)
$20,000
Rate
$80/hr
Payroll taxes
$6,250
Hours Billed
770
Basic health insurance
$2,500
OverheadProfit
$61,600
Office Rent
$2,000
Net Margins
49%
Utilities
$400
Hardware
$200
Software
$300
Total
$31,650

 

Not too shabby, this can work!

So you add a new team member, and then another.

Soon you have the bustling office of professionals you always dreamed of, but your margins are shrinking fast.

Your team has grown, but you find yourself working harder for less money.

James Franco GIF
This was supposed to be easy! What happened?!

The problem is that the profit of your business is directly tied to how productively people use their time.

If you pay an employee about $30 an hour, which they bill out as $80, your margins seem good – over 60%.

But if they work an unbilled hour, that cuts those margins in half. You’re paying $60 for an $80 profit. Your entire revenue depends on everyone staying productive, and managing that becomes increasingly difficult as you bring on more people.

Here’s three problems that are preventing you from fully capitalizing on your growing team’s productivity, and three solutions to create leverage and increase your margins.

Problem 1: You’re squandering valuable time

Business man planning
The majority of agencies achieve a billable ratio (hours billed vs. hours worked) of between 30-40%, even though digital agency experts say you should be striving for 60%. Bumping up this ratio is just a matter of increasing the efficiency of your work.

Using the same data as in the above example, here’s what that would mean:

Lost revenue = [hours not billed] * $80 + [hours not billed] * 28.85
Here’s what that looks like in practice:

 

Unbilled hoursRevenue lost/person/dayRevenue lost/person/mo.Gross margins
6 (40% billing ratio)$653.10$13,715.1028.98%*
4 (60% billing ratio)$435.40$9,143.4052.65%*
*for a 10 hour work day, with an $80 rate

 

In this example, shifting to a more productive schedule would increase our margins by almost 25%.

But getting employees to fill most of their day with billed hours is easier said than done.

Office space GIF

Every agency is plagued with meetings, calls, and other “necessary” interruptions that billable hours have to be squeezed around.

The Solution: Shift to a maker’s schedule

In order to achieve a higher billing ratio, your team needs to take a more ruthless approach to what tasks get on their calendars.

Paul Graham’s solution is to switch to “the maker’s schedule.” The principle behind this approach is that makers (people whose tasks take up an hour or several hours) can’t afford interruptions the way managers can.

The more time your projects take up, the more costly an interruption is.

Let’s say that, without billable hours, an employee’s schedule looks like this.

consulting productivity
According to Gloria Mark of UC Irvine, it takes about 25 minutes to refocus on a task.

Factor in a half hour prep time and those 6.5 scheduled meeting hours have turned into almost 14 hours of that week! That’s almost two full work days.

Maker's Schedule
But if you only allot one morning, or three hours of one afternoon per week for meetings, you’re freeing up the rest of your week for work that pays. As a result, you’ll be able to:

  • Have more flexibility for when you have time to meet with a client
  • Be able to bill full research hours, so that you don’t over-service

Having just one time slot for meetings will force your team to be ruthless about which meetings are worth those precious hours. Everything else can happen asynchronously through team updates that you send via a project management tool (hey, that’s us!).

Problem 2: You’re undervaluing your service

Shaking hands with client
There’s a cap to how many billable hours just a few people can achieve. So the next logical step to grow your business is to hire more people.

The assumption is that, with more people, margins can be maintained and your revenue growth will scale linearly with the number of employees you hire.

But the unfortunate reality is that growth decelerates with each new hire. You’ll need to spend more to keep up the same revenue. This is due to:

    • Managerial overhead: As your team grows, you won’t be able to manage and train your entire staff yourself. You’ll need people who make sure work is getting done, clients are taken care of, and employees are satisfied.

 

    • Administrative overhead: When you have just a handful of clients, it’s easy to keep your records straight. But once you’re managing dozens of clients who get passed between employees, important details get lost. Some kind of office manager or administrative assistant will be necessary for staff to stay on top of things.

 

  • Operation costs: You need a bigger office with higher rent, more hardware, and more software that your team needs to better communicate.

If you hire one manager and one administrator for every five people that you hire, your spend will grow without impact on billable hours. So your margins will suffer:

 

5 consultants10 consultants15 consultants
salary$300,000$720,000$1,140,000
revenue$700,000$1,400,000$2,100,000
margins57%49%45%

 

The Solution: Raise prices regularly

Increasing conversion rates
To make up for this blow to your margins, increase your hourly rate as your team grows.

The SaaS pricing experts at Price Intelligently advise young companies to raise their prices every 6 months. And while this advice works well for subscription software services, it applies even better to agencies.

Agencies, more so than software and other products, are able to use price elasticity to their advantage.

Economists define price elasticity as:

(% Change in Demand) / (% Change in Price)
Something like a New York hot dog has low elasticity. If a street vendor raises his hot dog prices, people will just go to the person on the next block.

But consulting work is a value-driven product. If you increase prices, clients who see the value in your work won’t leave.

Price elasticity of demand
With inelastic pricing, your price has a direct correlation to demand. Raising prices will keep people from buying your product or service.

In an agency, you can and should raise prices with relatively little change in demand. Click To Tweet

Even if you lost a client or two in the process, ultimately, you’ll significantly increase your profit.

So raise your prices every 6 months, and let your existing clients know in the form of a proposal. Explain an increase in quality, sales, demand, or turnaround time.

Problem 3: You’re worried about turnover

Agencies lose an average of 30 to 40% of talent a year. Consultants with a lot of industry experience are a hot commodity, so it’s all-too-easy for them to be swept up by bigger businesses with cushy benefits and high wages.

This can be crippling to a small agency where training new employees can take several months.

Using our same data sample, here’s how a two person turnover would impact our monthly margins:

Effect of turnover on margins graph
New hires will cost you double – you’ll lose the billed hours they’re not capable of taking on, and you’ll lose money on the salary you have to pay them from day one.

Not to mention, training can absorb other employees’ valuable time, pushing your margins even lower.

Burning money GIF
But if you can keep employees happy, you’ll prevent turnover in the first place. You’ll then not only decrease the annual cost associated with onboarding, but you’ll get employees who are growing in efficiency and value.

The Solution: Profit-sharing

The problem with consultancy is that the founder’s goal isn’t necessarily aligned with the employees’ goals. Founders want high billing ratios, and employees want to do good work, get paid and go home.

But, if you can get them to have a vested interest in their work, you’ll be less likely to lose them.

Lady working in office
You can achieve this by splitting profits with your employees.

Set a target billing ratio, and once your team hits it, share the profit.

This might seem like an expensive option, but it’ll save you a significant sum in the long run:

 

Cost of one employee quitting:
Hourly rate$80
Hours lost that month140
$11,200
Cost of sharing 20% profit w/ one employee:
Monthly profit$61,600
20% profit share$12,320
$2,464

 

The results are clear:

The cost of keeping happy employees around is much lower than losing them altogether. Click To Tweet

Not to mention, studies have shown that happy employees are more productive and learn faster.

Conclusion – Don’t leave room for chance

Team meeting
As your team grows, your risk increases. There’s no way around it.

You’re putting your trust in more people to use their time wisely, and every additional team member has the capacity to single-handedly slash your profit margins.

Increasing your margins aren’t just a fancy way of saying, “go make more money.” It’s a way of increasing the buffer, so that you can mitigate the risk that comes with agency work.

And the extra bucks are a huge added bonus.


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24 Comments

Daina

What a great post. I didn’t know agencies billable ratio statistics. Now I don’t feel that bad about mine.

Reply
robert mcdaniel

your numbers dont add up.

If you have 4 people working 160 hours per month each how do they bill 770 hours in your first example…that’s 130 hours over what they would bill even if all four worked 40 hours per week and billed 100% of their time.

the second example about losing an employee doesn;t add up either

Reply
Grainne Forde

Hey Robert,

To keep the model simple, we just presumed the “you” was an experienced consultant who then hired out 4 more people to increase his profit. That “you” then has four people on payroll, but is also contributing to billable hours. So 5 people who work 7 hours a day, 22 days a month (the average number of working days in a month) is 770.

With regards to the second example: the number is simply 12,320 (20%) divided by the 5 people working, since its the cost per person.

Let me know if that clears things up?

Best regards,
Gráinne

Reply
Simon Kelly

Excellent article, I can definitely relate to this. The idea of profit sharing is good for many reasons, not just retention. I haven’t done this in my agency yet, I think I need to pull the trigger and make it happen. Do you have any more resources or articles you could recommend about this?

Reply
Grainne Forde

Simon,

With regards to profit sharing, we didn’t come across any great pieces out there that really lay out how to do it. Stay tuned — we might delve into deeper discussion in a future post.

Glad to hear you enjoyed the article and thanks for taking the time to comment.

Best regards,
Gráinne

Reply
Grainne Forde

Always great to hear positive feedback Marc! Thanks for checking out our latest post.

All the best,
Gráinne

Reply
Paul Warren

This is honestly one of the best articles I’ve ever read on scaling an agency when it comes to pricing.

This stuff is so hard to figure out and there’s so little information on it. If you know of any, please do let me know.

… But you’ve given me some awesome ideas. So thanks.

Please keep posting more stuff like this!

Cheers,
Paul.

ps: Love Teamwork! We use it to manage absolutely everything at our Agency.

Reply
Grainne Forde

Paul,

We’ve got plenty more posts like this lined up — so stay tuned!

Thanks for the positive feedback and taking the time to comment.

All the best,
Gráinne

Reply
Joe

I need help with one of the formulas you use. In the first example “Using the same data as in the above example, here’s what that would mean:

Lost revenue = [hours not billed] * $80 + [hours not billed] * 28.85”

Where does the 28.85 come from? Are you referring to the gross margin? If so then there is a typo as that is listed at 28.98

Either way… how was the gross margin calculated?

This is a great concept to understand, just trying to make the math work so I can apply it to our agency

Reply
Grainne Forde

Hey Joe,

So, $28.85 is the 60k/yr salary we used throughout the article. 60k/52/40 gives us an hourly rate of 28.85. The lost revenue includes both the hours that went unbilled, and the amount you spend on that employee for those hours.

Hope this helps. If you’ve any more questions just ask.

Best regards,
Gráinne

Reply
Joe

That does help. The second question was how are you calculating the gross margin? I am not sure how you are arriving at these two numbers $13,715.10 28.98%*

Thank you,
Joe

Reply
janet

This is just SO TRUE! Scaling is just so tricky. More workers require more overheads (admin, project management, sales person). I am so pleased to read something confirming the realities of growth in an agency and how to resolve the issues that arise.
Excellent post. Would like to read more about these things.

Reply
Therese Cohalan

Hi Janet,

Thanks for commenting. Glad you liked the post. We’ll be sure to share similar posts in the future :).

Kind regards,
Therese

Reply
Joe

Therese,

I commented above looking for some clarification on the math in this post. Can you take a look at it for me?

Reply
Mark Homer

Fantastic article. Something we have faced and wrestle with every year we grow. Keep up these type of ‘business side of agency’ articles. They are very helpful.

And in case we don’t say it enough – your team rocks! The support team always takes care of our questions quickly and effectively, even the complex api ones.

Reply
Leanne King

Hi Mark,

Really appreciate your kind words. Glad you’re enjoying the articles. We’ll keep them coming.

Merry Christmas,

Leanne

Reply
Gráinne Forde

Humberto,

It’s fantastic to hear how valuable you found this post! Thanks for taking the time to comment—the positive feedback helps us know we’re getting the content right 🙂

Gráinne

Reply
Oscar

I am a small consulting agency and never have had plans to scale because of exactly what this article explains. For some, it’s a goal to have a corner office, staff, loads of clients, and maybe a bit of prestige in building a large firm. Kuddos! However, this is a law of nature in the business of building agencies. The more profit you want to generate, the more you NEED to have an office, staff, and loads of clients. The article does a definitive job at describing the pitfalls and way to continue to be profitable and scale. Well done. This concretes my idea of never wanting to scale in the first place. I would love to see the same article depict how to remain profitable and keep from scaling. I don’t plan on hiring employees, having an office, and being very selective with my clients. I wonder if this is all just a matter of priorities? Great article and kuddos to people with specific goals and aspirations of large firms.

Reply
Gráinne Forde

Oscar,

Thanks for checking out the post and sharing your interesting perspective. You’ve definitely given us some food for thought for our upcoming posts. Make sure to stay tuned for a follow-up on this one 🙂

Gráinne

Reply

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