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Achieve Your Business New Year’s Resolutions With The Sandwich Diagram

The start of a New Year is a great opportunity to give some thought to improving your business.

The process of tackling lofty business goals always appears daunting initially, but effective planning can help to break these goals into smaller, actionable steps. If you want your professional service business to reach a certain financial target, ultimately this comes down to effective budgeting and planning. It’s at this point that it is helpful to consider the Sandwich Diagram.

What do you sell?

The owner of a t-shirt business buys material, and sells a t-shirt, hopefully at a profit. As the owner of a professional service business, I would suggest that you are essentially buying the time of your staff, and selling this time to your client. The Sandwich Diagram illustrates the key elements in this business process.

sandwich diagram.png

Base rate: This is what you pay a member of staff, or freelancer per hour. This includes salary plus any employment contributions such as holiday pay, annual leave, superannuation, or insurance. The base rate is a direct cost because it is a cost that can be directly attributed to revenue. In a professional service business where time is your inventory, your staff should be recognised as a direct cost.

Billable rate: This is the price that you charge your client for each hour of your staff’s time. The billable rate should be reflective of the level of seniority or expertise of the staff member. It should be consistent with industry standards and the expectations of your client. As a general rule for accountants, architects, and consulting engineers, the billable rate is between 2.5 to 3 times the base rate.

Operating Expenses: Employing your staff is not the only cost of running a professional service business. Operating expenses are referred to as ‘the costs to keep the lights on’, and they are the costs that are not directly affected by revenue. These include the likes of rent, electricity, insurance and accounting fees. A business needs to be able to cover their operating expenses in order to stay afloat. Common culprits for high overheads are telecommunications, vehicle costs and advertising.

Profit: Once your staff and your operating expenses are paid, this is only the breakeven point for a business. A business that strives solely to break even, without a focus on growth can easily find itself in a vulnerable financial position. A healthy profit margin helps you as the owner to reinvest into the business, and will also ensure the business can ride out unsteady financial periods. Any increase in either the base rate or operating expenses inevitably leads to reduced profits.

Utilisation: Once you’ve determined the correct billable rate for your staff, this is no guarantee of financial success. The billable rate of your staff will only cover base rate, operating expenses, and profit if they have enough billable work hours. It is important that your staff track both their billable and their non-billable time to ensure accurate reporting. Tracking hours for a professional service business is like running a real-time inventory stocktake, and can be used to help with invoicing clients, planning projects, managing payroll, and reporting.

When working on fixed price quoted projects, the tracking of time helps you to determine the accuracy of your quote, comparing actual time and actual profitability with your estimates.

The Numbers: If each one of your staff members was able to work 40 hours per week for 52 weeks per year, the total number of hours per staff member would be 2080. To create a sustainable business plan however, it would not be wise or realistic to expect to bill for 2080 hours. Initially, we need to factor in four weeks annual leave, two weeks statutory holidays, and one week sick leave, which represents seven weeks or 280 hours. If we take 2080 total hours and subtract 280, this leaves us with 1800 remaining hours.

This 1800 hours represents the time spent in the office, but an ongoing challenge for a service business to ensure that work hours can be charged to a client. A realistic target is 70% billable hours, or 1260 hours per year.

Reaching your New Year’s Resolution

Now we have all the ingredients to determine how we can make our financial resolutions a reality. We need to calculate the billable rate that covers: (i) our base rate, (ii) our operating expenses, (iii) our non-billable time, and (iv) our profitability. Once you have determined the billable rate of your staff, then you need to focus on the scheduling and management of your staff to maximise their value, to meet deadlines, and deliver high quality results.

The tracking of project financials should be part of your daily routine as a business owner to help you with effective forecasting and planning. The big challenge for many business owners is easy access to this information. The idea of wading through multiple spreadsheets, paper timesheets, invoices, and bank statements is not generally an activity that inspires someone to go into business.

You as a business owner need to have a universal source of truth that you can easily analyse with the click of a button. This is the benefit of having a system that consolidates all project management information seamlessly in a single place.

Is this the year for you to harness the power of technology, and do business better?

Wishing you prosperity and financial success in 2017!

Stew Ellison


 

 

Service: Financial Breakdown

Billable rate - $150 per hour
Cost rate - $70 per hour
Gross profit (billable less cost) - $80 per hour
Overheads by staff member - $1200 per week

Example 1 (40 hours - 100% billable week)

Revenue (150*40) - $6,000
Cost (70*40) - $2,800
Gross profit - $3200
Less overheads - ($1200)
Profit - $2000

Example 2 (20 hours - 50% billable week)

Revenue (150*20) - $3,000
Cost (70*40) - $2,800
Gross profit - $200
Less overheads - ($1200)
Profit - ($1000)

Example 3 (Breakeven - 27 hours - 67.5% billable week)

Revenue (150*27) - $4,050
Cost (70*40) - $2,800
Gross profit - $1,250
Less overheads - ($1200)
Profit - $50

To avoid losing money on each staff member, the business owner requires that his staff members work a minimum of 27 billable hours per week (breakeven - 67.5%). An average weekly billable rate of 28 hours will only produce $50 profit, and is unlikely to be a sustainable business.


 

 

Project: Financial Breakdown

Quoted - $15,000 (100 hours at $150 per hour)
Estimated cost - $7,000 (100 hours at $70 per hour)
Expected gross profit - $8000 (100 hours at $80 profit per hour)
Overheads by staff member - $1200 per week

Example 1 (project delivered in 100 hours)

Invoice on quote - $15,000
Actual cost - $7,000
Actual profit - $8,000

Example 2 (project delivered in 80 hours - under budget)

Invoice on quote - $15,000
Actual cost - $5,600 (70*80)
Actual profit - $9,400

Example 3 (project delivered in 120 hours - over budget)

Invoice on quote - $15,000
Actual cost - $8,400 (70*120)
Actual profit - $6,600