The Numbers Game: The Secrets to Optimizing Your Agency's Performance

Agencies are complicated businesses to run. They require sophisticated business strategies and a unique understanding of the agency business model to maintain profitability and efficiency. Unfortunately, many agency owners have little to no experience running a business and often start the firm after leaving a corporate job. They’re subject matter experts, not agency business model experts.

This blog entry will break down the framework of agency math and help owners and executives understand how to run an agency by the numbers. It will dive into a few of the most critical numbers to look at when auditing the current state of an agency. These numbers give owners the tools to understand how their agency compares against benchmarks with the goal of ultimately increasing profit and revenue.

Capacity

Capacity equates to how many hours each team member has available to work. In an agency, or any professional service company, the team’s time is the business’ inventory and top resource to manage. This is true regardless of whether the agency is pricing client work based on hours or not. 

Capacity planning is a critical part of an agency’s planning process to determine the team resources available and what is required in order to meet demand and deliver quality service to clients.

Proper capacity planning is necessary to:

• Ensure the agency isn’t bringing in more work than it can fulfill while maintaining high quality service and results.
• Make informed decisions around hiring new employees, bringing on contractors and sourcing vendors to meet client needs.
• Reduce burnout among team members, which leads to decreased productivity, morale and quality of work. 
• Prevent having too little work for the team, which tanks profitability and can lead to decreased morale as well. 

Comprehensive audits show that agencies of every size struggle to have a clear line of sight into the team’s real-time availability. The larger an agency grows, the more critical capacity planning becomes. Without the right tools and processes, it can easily take agencies over ten hours a week to manually calculate capacity. This is one of the number one challenges that agencies approach Advocation to solve.

For agencies with more than one full-time employee, a capacity planning tool is highly recommended. Teamwork is the gold standard when it comes to capacity planning, as it is specifically designed for the agency business model. While many agencies can get away with manually calculating capacity through spreadsheets as they grow, this often creates bad habits around capacity planning that have cascading effects as the company grows. Today’s technologies make it easier than ever to have clear visibility on capacity.

For more on how agencies are using technology, including Teamwork, to streamline operations, check out this blog post. 

Utilization rates

Utilization is simply the calculation of the total hours the team has available to work divided by the billable client hours. In other words, utilization rates are essentially billable versus non billable hours. This is one of the most critical numbers to look at during an agency audit. 

Utilization rates and capacity planning go hand in hand. If the team is at capacity with too many non-billable hours, profit margins will inevitably suffer. 

When agencies are not tracking and monitoring utilization rates effectively, one of two possible scenarios can occur. 

• Agency teams end up with too many non-billable hours being spent across the agency. This means that the company is covering the salaries of too many employees straight from their profit margin instead of allocating those team members to revenue-producing work. After getting this problem under control, agency owners can move the firm from flat profit margins to at least 20% in as little as six months and 30% and beyond in a year’s time.
• Agency teams end up with utilization rates so high that it cannot be maintained. When utilization rates are too high, agencies are unable to maintain a compelling culture, make time for important team activities like professional development, effectively execute business activities like marketing, and often can’t retain a staff due to burnout. 

Utilization rates are not one size fits all. Target utilization rates vary based on the size of an organization, revenue, growth goals, and other factors. However, utilization rates of 95% are no longer acceptable. The expectation of staff spending this amount of time on billable work is unsustainable, and is a top contributing factor to burnout and attrition.

Client Budgets & Over Servicing Rates 

A discussion about agency math cannot be had without breaking down budget management. There are three non-negotiable processes an agency must have in place for effective budget management.

• A process for accurately scoping client projects, with clarity around deliverables, timelines and budgets. Without setting these expectations, agencies often end up working far outside of the client’s scope of work and therefore, budget. 
• A process for monitoring and managing client budgets day-to-day with clear owners who are accountable for keeping client work within budget. 
• A system for hosting retrospective and post mortem meetings to review budgets that went over their original target. The goal is to identify a new process to be able to outline an accurate scope of work moving forward. This is the best way to avoid repeating mistakes. 

Unmitigated overservicing is one of the top issues agencies of all sizes face and happens when the above processes are not in place. Agencies rarely realize what an impact overservicing has on their bottom line until the issues have been corrected and profit margins increase. 

Budget management is never perfect, but aiming for a 10% margin is generally a great place to start. More commonly, we see agencies overservicing at the rate of 30-50% and beyond. To put it into perspective, a 30% overservicing rate is the equivalent to working from mid-September to New Year’s Eve for free.

To accurately manage client budgets and prevent overservicing, put the above processes in place and ensure there is clear ownership of budget management within the agency. 

Client & Company Profit Margins

When accurately managing the above numbers, profit margins quickly become a non-issue for agency teams. However, it is critical to have a clear understanding of target margins when it comes to client work.

It’s common for agencies to target a profit margin on client work equal to what they want the company’s net profit to be. However, the margin on client work also needs to cover overhead and other expenses inside of the agency. 

By refining processes to proactively build appropriate profit margins into each client budget during the scoping process, agency teams are able to streamline a solution and increase client profit margins long term. This typically requires a revised process and updated scope of work for existing clients.  

It can be difficult to define a “good” net profit margin, as each agency has different goals when it comes to growth. Many agencies come to Advocation with a net profit margin of 0-10%, which creates a very unstable business. With these margins, there isn't enough cash flow to hire, offer raises, or stay competitive in the market. Most owners operating within these margins are stressed about covering payroll each month. When agency management is guided by the process shared above to manage capacity, utilization rates, client budgets and profit margins, it is common for the agency to see a 30%+ net profit margin 

Revenue

Agencies often seek help with agency management because they are looking for the processes to grow and scale. They are typically surprised to find that revenue is not what they need to focus on when managing the agency’s numbers. This is because the level of efficiency in which an agency earns revenue is far more important than the actual number. Agency owners with $500-600 thousand in revenue often have higher take-home salaries than agency owners with $3-5 million in revenue. 

The success of any agency comes down to how closely the agency manages the business by the numbers and how efficiently the team is delivering the work. 

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