The 9 Revenue Sources for Pro Serve Firms: How Many Are You Using?
Greg Alexander
March 29, 2023
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The 9 Revenue Sources for Pro Serve Firms: How Many Are You Using?
Discover the 9 common revenue sources for a successful professional services firm. Learn about the advantages and disadvantages of each and how you may be able to realize more revenue this year by diversifying or strengthening how your firm makes money.
In this week’s video, Greg shares:
The 9 Sources of revenue in the professional services business model
Pros and cons of each, plus additional things to think about
How to identify which revenue sources are best for your pro serve firm
This article was originally published on ReadWrite.
When I talk to founders of service firms, many of them express the same desire to me: They want to become software companies. They see SaaS companies taking the world by storm, and they wonder if they haven’t made a giant mistake not choosing that path.
They see the valuations of SaaS firms and get intoxicated by the numbers. Understandably so, with a SaaS company like Salesforce worth $132 billion and the most valuable professional service firm, Deloitte, worth $27.9 billion.
Risk of being an entrepreneur
Some founders believe that service firms are more work-intensive and that somehow building a SaaS company means a better work-life balance. And there are some founders who are driven by the need for fame. They want to be commonplace names in the way that the Zuckerbergs, Musks, and Kalanicks have made headlines and had slick documentaries made about them.
The five-year survival rate of service firms is 47.6 percent, and the five-year survival rate of product companies is 23.4 percent. Founders of both service firms and product companies take a big risk when they become entrepreneurs, so it is wiser to play the odds and start a service firm instead of a product company.
Three factors to consider before going SaaS
In reality, and this is what I tell professional service founders, the challenges and limitations of SaaS life should put you off, perhaps for good. Consider three things before jumping into the SaaS world:
1. Evaluate the financial impact of SaaS
The SaaS world can be very inviting but remind yourself of the potential of your firm before you start building a SaaS company out of fear of missing out. Founders of professional services firms can create more personal wealth than their counterparts in product companies. The reason for this is the impact of capital intensity.
For example, let’s say two friends, Sue and Kim, start companies at the same time. Sue starts a consulting firm, and Kim starts a software firm. Sue does not need to raise capital.
Consulting firms have very little costs and aren’t capital intensive. Therefore, Sue owns 100 percent of the firm. Kim, on the other hand, must raise $5 million from investors. SaaS companies have product-development costs and are capital-intensive. Therefore, Kim owns only 15 percent of her firm.
Ten years later, Sue and Kim sell their firms. At the time of the sale, both were making $10 million annually in revenue. Sue’s firm gets valued at 1.5x revenue, resulting in a purchase price of $15 million. Since she owns 100% of her firm, Sue makes $15 million.
Kim’s company gets valued at 5x revenue, resulting in a purchase price of $50 million. Since she owns 15 percent of her firm, Kim makes $7.5 million, meaning Sue makes twice what Kim makes at exit.
Additionally, Kim’s investors pay Kim a salary and prohibit her from pulling money out of business. Sue doesn’t have investors; she pays herself a salary and takes cash distributions regularly. Kim must sell the company to get rewarded in proportion to her efforts, but Sue rewards herself twice, once with regular cash distributions and once upon exit. Effort and rewards are aligned consistently.
2. Decide on the work-life balance you want
Second, founders of professional service firms work less than founders of product firms. The reason for this is that they can control the scale. Founders of product companies are forced by their investors to grow at all costs. And this requires a non-stop, grueling work schedule.
A founder of a well-run marketing agency, for example, can achieve a work-life balance. She can ratchet up work when she feels inspired and can ratchet down work when she feels burnt out by taking on clients as desired. She controls the firm and is not duty-bound to venture capital tech investors.
Her cost structure is variable, the talent she needs to serve clients is readily available, and she has job security because she will not fire herself when she hits a bump in the road.
In contrast, the limitations of SaaS companies go beyond business; product company founders have no work-life balance. They lost control of their life the minute they took capital from investors. Their days are now filled by keeping investors happy, and their cost structure is not nearly as flexible because investors are managing the burn rate.
In addition, the talent SaaS founders need to build the product is tough to find and very expensive. Quality software engineers are in short supply. Lastly, and most troubling, if the founder of a product company misses the projections, they will lose their job. Investors replace founders when trouble shows up.
3. Determine the best way for your firm to scale
The promise of SaaS success is rapid scaling, but you can learn this lesson and apply it to your professional services firm without the risk of trying to raise capital.
There are many professional service firms that have scaled by expanding their reach. Gartner Group is a professional service firm with $4.7 billion in revenue, servicing over 15,000 clients.
The company has created economies of scale for its unique brand; it produces market research reports that clients subscribe to. The cost to produce the reports is high yet fixed. This means that with each new client, the cost to serve (on a per-unit basis) falls.
Economies of scope suggest that the cost of selling two services together is less than the cost of selling them separately. Some professional services are not scalable. Services that require specific client knowledge do not have the unit economics of a product.
A service firm would be wise to build a portfolio of service offerings with complimentary demand. This is when the consumption of one service increases the demand for another.
Your ego doesn’t need SaaS; it needs success
Overall, building a SaaS company isn’t all it’s cracked up to be, even if your venture does reach the heights of billion-dollar unicorn status. While the fast growth of certain unicorn companies can be tempting to pursue, the realities of raising capital are not as fun.
Instead, focus on how to find your niche in business — the areas where you have unique expertise and can build a scalable services firm that will help real people solve problems in their life. Working on creating the best scalable professional services firm you can is far more likely to reward you, both in the present and in the future.
Remote work vs in office vs hybrid work continues to be a debate in the professional services industry.
It appears service firms are voting with their wallets as vacancy rates are trending up. And as long term leases start to expire, expect this trend to continue.
Have You Structured Your Firm Effectively to Scale?
Greg Alexander
March 22, 2023
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Have You Structured Your Firm Effectively to Scale?
The professional services org chart is unique. With labor as the highest expense in your firm, it’s critical that you get this right. In this video, Greg Alexander, Founder of Collective 54 and Capital 54, shares the common ways that professional services firms organize their teams, the pros and cons to consider, and how to decouple your rate of growth from headcount.
In this video, you’ll learn:
The 3 types of employees you need to structure your team
The Up-or-out pyramid in professional services and why it’s a go-to model, but pitfalls to watch out for
Professional services team structure and other considerations to preserve margins
If you’re considering exiting your firm one day, you’re thinking about how much your firm is worth. Whether you’re passing it on to the next generation or selling it, you want your firm to be worth as much as possible. And to do that, your firm needs to grow. One method of growth is to grow by acquisition.
The reason a boutique professional service firm should consider an acquisition is to grow by entering a new market. Revenue growth drives firm valuation, and if growth in the core business has slowed, the firm is worth less. Thus, the wealth you’ve worked hard to create is reduced. Before that happens, your firm needs to find new growth opportunities. Often, these growth opportunities are in new markets, such as different geographical locations, industries, or service categories. Acquiring a firm operating in a new market is a potential way for you to enter.
Organic vs. acquisition growth
Traditionally, there are three ways to enter a new market. You can build the practice internally, partner with a firm in the desired market, or buy a firm operating in the target market. All three methods can be successful.
So, the question is: Should you build, partner, or buy? This question gets answered when you ask how much time do I have, how much is it going to cost, and how much risk am I willing to tolerate? When it is faster, cheaper, and less risky to acquire, you should make an acquisition. If it is faster, cheaper, and less risky to enter a new market by building internally or partnering, you should pursue organic growth.
Determining if it’s the right time and place for you to acquire another firm
There are five key questions a founder of a professional service firm needs to ask themselves to determine if the conditions are ripe for an acquisition. Those questions are:
1. Do you have superior information?
For example, you know how to get access to clients and the target firm does not.
2. Are you the only bidder?
Many, if not most, professional service firms are lifestyle businesses that cannot attract a buyer. When you are the only bidder, you dictate price and terms.
3. Are we in a recession?
Recessions are fantastic for well-run boutiques, but they punish poorly run boutiques. During recessions, some firms get in trouble and may need a lifeline to stay in business, making them a good candidate to be bought.
4. Is the selling firm sick?
In this instance, the underperforming firm is attractive, and the performing firm is unattractive. You can buy the sick firm, enter the new market, cure the illness, and thrive.
5. Does the seller care about things beyond price?
Boutique professional service firms, run by founders like you, are more than financial vehicles. These founders care just as deeply about their clients, employees, and legacy as you do. A founder wants to know their people, clients, and reputation will be well taken care of post-acquisition. When dealing with an idealistic founder, conditions are ideal for an acquisition. When dealing with a mercenary founder focused only on money, the conditions are not ideal and the price will likely be too steep.
Setting up your acquisition for success
After you’ve determined it’s the right time to buy, there are two key steps to take to make sure your growth-through-acquisition strategy works.
First, you must buy at the right price. Unfortunately, most boutique pro serv firms overpay when making acquisitions. They are inexperienced in determining the right price and in doing deals. Most founders have never bought a firm before and make mistakes. They focus entirely on the math, such as a multiple of earnings before interest, taxes, depreciation, and amortization (EBITDA) or revenue. This is important, but doing a deal is much more than that.
When determining the correct price for acquisition success, only enter negotiations with a founder who has a great compulsion to sell. Walk away from sellers on the fence. Founders of boutique professional service firms who are compelled to sell usually have one or more of these complications in their life.
They have estate problems. For example, maybe they are getting divorced, and the firm is an asset owned by both spouses.
They need capital in a hurry. Maybe they have a debt on the balance sheet that needs to be paid off.
They’ve recently lost their successor and see no way out. For example, an absentee owner has been getting rich off a young executive’s back and the young executive quits.
They need capital to grow and cannot get access to it. Perhaps a firm wins a big new contract and needs to hire up before the first invoice is collected.
They realize they have a below-average management team and need new blood. For example, the founder tried to delegate, it flopped, and they’re back to grinding out 60-hour weeks.
The second key step to take is to be sure you have a unique ability to operate the acquired firm. Practically speaking, this means you have a much better team than the acquired firm. And when I say much better, I mean at least twice as good. This protects your downside. If the team of the acquired firm quits, your team is capable of picking up where the previous team left off. And it helps you capture the upside. Your team will execute better and deliver more growth and better profits.
An experienced community to support you
If this is the first acquisition you’re pursuing or your previous acquisition didn’t go smoothly, join the Collective 54 community. Our members are founders and operators of professional service firms like you that have been in your shoes. They are happy to advise you on the best next steps for your firm.
To determine where your firm is right now, your first step should be to find out the valuation of your firm. Check out our free Firm Estimator tool here.
Selling Professional Services – Do You Need a Sales Team?
Greg Alexander
March 15, 2023
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Moving from Founder-Led Sales to a Commercial Sales Team
Are you relying on one person to generate business through referrals? The path from a small business to a market leader requires you to build out a professional commercial sales engine. In other words, you need a team of people, excluding the owners, that are bringing in work with a predictable and consistent process. Join us to learn about the attributes that make up the engine.
In this week’s video, Greg shares:
– How to build a team that doesn’t rely on the heroics of a few individuals
– Developing a consistent process for recruiting and training sales talent
– What you should know if you plan to exit your firm one day
This article was originally published on Entrepreneur.
Business plans are like mining for gold. Miners had to start with only an educated guess on an area, canvas a stream, then pan and sift endless piles of dirt. Prospecting is largely gone, but it’s a useful metaphor for how business leaders take a problem, solve it, refine it, and continually revisit and adapt — even to the point of tearing down the essential points of their business. This ability is called “intellectual range of motion,” and it’s one of a business leader’s most important tools — especially if you’re selling your expertise.
Peloton, for example, continues to display this intellectual range of motion. While it had a few pain points — lower subscription growth, stock redemption issues and a wave of layoffs — Peloton shows a willingness to explore and change direction.
Today, Peloton has 5 million customers and is worth $3 billion. However, despite significant brand equity, Peloton is substantially changing its business model. The company is muddying the waters of the service-based business vs. product business dynamic and rolling out a “Fitness as a Service” product where people can access Peloton’s training and instructors without the bike itself.
Intellectual range of motion: A powerful tool
The extent to which an idea can be altered based on an entrepreneur’s intuition and imagination falls under their intellectual range of motion. A wide range of motion enables an entrepreneur to turn an idea into a revenue growth opportunity. In contrast, leaders of firms with narrow intellectual ranges cannot recognize an opportunity because of the limits of their imagination.
Intellectual range of motion is more highly valued in a founder of a services business than it is in a product business. This is because services are much more malleable than products. For example, modifying a product to take advantage of an opportunity might require sourcing new raw materials, reconfiguring an assembly line, re-writing software code, developing a new manufacturing process and more. With services, there is none of this, so the time from idea to execution is measured in days and, sometimes, hours.
As a founder myself, I have grown my firm by increasing my intellectual range of motion. For example, the sector I operate in, business mastermind communities, is over 200 years old with a few hundred firms. All of these firms are horizontal providers, meaning they do not serve a specific vertical industry. My firm, on the other hand, serves a single industry — the professional services industry.
This industry specialization has appealed to many and has allowed our firm to grow consistently. The idea for this form of differentiation was found in another business entirely: SaaS. The software category has matured, and many successful SaaS companies now specialize in a vertical industry. My idea was this could (and should) work in the business mastermind community sector — and it has. Recognizing a winning strategy in another industry and successfully porting it into a different one is an example of intellectual range of motion.
Key strategies to improve intellectual range of motion
For entrepreneurs and founders who want to gain better intellectual ranges of motion, there are a few critical actions to take:
1. Ask: What does the world need from me right now?
This question is not asked often enough. The reason this question is neglected is that business owners fall into the routine of delivering what they have always delivered. Due to the benefits of the experience curve, the more often a firm provides a service, the lower the cost and the higher the margin. Business owners are driven by profit and will not discontinue a profitable service line until absolutely necessary. As a result, they stick to their knitting too long and miss opportunities. Over time, this behavior restricts one’s intellectual range of motion.
Blockbuster Video once provided us with a remarkable service: hit movies watched at home for rent. They stuck to VHS tapes but missed mail-order DVDs and video streaming. They went bankrupt as a result, and we now all binge-watch Netflix content. Blockbuster Video no longer fit the market; the market had evolved to services that came to them and, eventually, to fully digital and personalized streaming platforms. This is something founders in professional service firms have to ask themselves consistently to remain competitive in the market, but the lesson remains for large companies like Blockbuster as well.
2. Locate wasted resources in legacy operations
A common reason new ideas that could lead to break-out growth opportunities aren’t pursued is that entrepreneurs incorrectly think they do not have the resources. However, the resources they need are available, they are just consumed with legacy operations.
Legacy service offerings are ripe for optimization. Entrepreneurs should look for ways these services can be delivered with far fewer resources. These newly liberated resources could be allocated to today’s wild idea that could be tomorrow’s golden goose.
3. Produce a roadmap of future offerings
It is best to organize the service-offering roadmap by identifying boundaries. Today’s business and tomorrow’s business are always competing for scarce resources. There is only so much money, time and talent to go around. In the absence of a roadmap organized by time boundaries, today’s business wins the competition for resources. A roadmap makes sure tomorrow’s business gets the resources it needs.
For example, boundary 1 of your roadmap should be defined as offerings in the market for the next year. Boundary 2 should be defined as an offering in the market in two years’ time. And boundary 3 should be defined as offerings in the market in three years’ time. By landscaping out the roadmap in this fashion, an entrepreneur’s intellectual range of motion is increased by stimulating their imagination.
Business leaders looking to jumpstart their success — or simply maintain it — should look to see how they can improve their intellectual range of motion. In the long term, they may just strike gold.
Hiring Employees: Getting it Right for Your Pro Serv Firm
Greg Alexander
March 8, 2023
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Have you ever said “Nobody can do what I do?” At Collective 54, we hear this a lot – but if you want to grow and scale a pro serve firm, you can’t be the hero. In fact, Most pro serve founders have more 90%+ of their net worth tied up in their firm. However, that worth will never be fully realized if you’re the linchpin in your own operation. A team is critical in solving this.
In this week’s video, Greg shares:
How to avoid the hero style management firm
3 key questions to ask yourself when scaling your business
Signs you may be stuck in a lifestyle business and how a team can solve this
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