Creative Work Job Costing Starts with your Net Effective Multiplier

In the realm of creative work with unique nature, it can be challenging to accurately estimate costs and price projects. To ensure your projects generate healthy profits, having an effective job costing method in place is essential. In this article, we will cover how you can apply Net Effective Multiplier in your job costings to streamline the process, enabling better decision-making and improved profitability.

Understanding Job Costing

Job costing is the process of estimating and tracking the costs associated with a certain project. This entails accounting for direct and indirect expenses such as creative labor, materials, equipment and software, overheads, and other related costs of the project. Job costing provides valuable insights into project profitability, which helps you set realistic budgets and optimize costs.

In many creative agencies, costing a job is left to be done after a disaster has been cleaned up, if at all. Jobs get rushed into the studio and sent for client approval only to have multiple revisions requested and finally…sent off for final production.

The invoice is sent out, but how profitable was the work? How much should the invoice really have been? Unless you’re actively engaged in setting up checks and balances on what your entire team costs the agency for every hour you pay them versus what you’re effectively charging out for that time, you are cutting yourself (being the profitability of the agency) short.

The Challenges of Job Costing in Creative Work

The creative industry presents unique challenges when it comes to job costing, including:

  • Unique projects: Creative work often involves projects that are one-of-a-kind with different requirements, scopes, and complexities. Each job demands a customized approach to job costing, making it difficult to rely on historical data for accurate cost estimation.
  • Intangible aspects: Creative projects encompass intangible elements such as ideation, concept development, reputation, expertise, and artistic merit. It’s hard to quantify these elements in monetary terms and assign a precise value to them during the job pricing process.
  • Limited benchmarking: Due to the uniqueness of creative projects, benchmarking against industry standards and competitors can be limited. Instead, you can develop internal benchmarks and track project KPIs to adjust job pricing accuracy.
  • Evolving market dynamics: Since the creative industry is constantly evolving with changing market trends, client expectations, and technological advancements, adapting to these rapid shifts can pose challenges for job estimating. 
  • Project scope creep: During a creative project, the client’s requirements may extend beyond the initially agreed scope of work, leading to additional costs. If not managed well, scope creep can create discrepancies between estimated and actual costs, impacting your job costing accuracy.
  • Value perception: Estimating the value of creative work can be subjective, as clients’ perception of value can vary. Balancing client expectations with fair pricing is a challenge in job estimating for creative agencies.

To navigate these challenges and operate profitably and sustainably, you must adopt effective job costing practices. One recommended approach is the Net Effective Multiplier.

The Net Effective Multiplier (NEM)

In job costing for creative work, the Net Effective Multiplier represents the correlation between billable rates and actual costs. It accounts for various factors such as the labor’s expertise and productivity, overheads, project complexity, market demand, client requirements, and profit margins. 

The multiplier serves as a benchmark for determining the final pricing of creative projects. By understanding and calculating this multiplier, creative agencies can accurately estimate project costs, set appropriate rates, and ensure profitability.

The net effective multiplier is a powerful tool for project costing in creative work. Here are a few ways to apply NEM:

  • Cost estimation and budgeting: The net effective multiplier helps you create realistic project budgets by accounting for all direct and indirect costs.
  • Setting pricing and rates: By understanding the net effective multiplier, you can establish competitive and profitable prices for your services. This helps in attracting clients while maintaining profitability.
  • Evaluating profitability and project viability: The NEM method supports you in conducting a comprehensive assessment of project profitability and viability. You can compare the multiplier to the ideal profit margins to determine the project’s feasibility and make informed decisions about your pursuit.

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How to Calculate the Net Effective Multiplier

This is effectively the number of times you multiply your direct labour to achieve your sell price.

The net multiplier formula is (Gross Margin + Direct Labor) / Direct Labor. In a simplified approach, if your staff person is costing you $35.00 per hour and you’re selling this time at $100.00 per hour, the Net Effective Multiplier is (65+35) / 35 = 2.85.

Phil Edwards of the Edwards Management Group, a leading financial consultant to creative agencies, would consider this low. In a recent Financial Performance Survey of communications and industrial design firms, Phil suggested NEM rates from 2.8 to 5.5. Hence the example above is a little low and some changes should be made.

Improving Your Net Effective Multiplier

To improve the net effective multiplier and enhance job costing practices, creative professionals can implement these 6 strategies:

1. Raising the bill-out rate:

As you’re not likely to cut your staff person’s wage, you’ll want to look at raising the bill-out rate. To achieve a modest 3.5 NEM, you would play with the formula above to establish a new higher gross margin and charge-out rate.

Here is the formula: (Direct Labour x Desired NEM) – Direct Labour = Gross Margin.

In the example (35 x 3.5) – 35 = 87. You would take the $87 and add it to the direct labour cost of $35 for a new bill-out rate of $122 per hour.

For an Net Effective Multiplier of 4, the charge-out rate should be $140.00 per hour.

This discussion raises the point that if you’re not selling your time with a reasonable NEM, your creative agency will never make money, even if clients are happy paying the invoices.

2. Reduce direct and indirect costs:

To reduce direct and indirect costs, look for ways to streamline processes within your agency. Identify redundancies or inefficiencies and standardize procedures to eliminate waste. Develop clear and documented processes that outline the best way to accomplish tasks. For example, assess if multiple review cycles can be reduced by implementing a feedback mechanism or if certain administrative tasks can be optimized.

Additionally, consider using automation tools to take care of repetitive tasks, remove human errors, save time, and free up valuable resources. Automation helps you reduce labor costs by minimizing non-billable activities, thus improving your NEM. 

3. Enhance productivity and efficiency:

Improving productivity and efficiency is crucial for maximizing your net effective multiplier. Identify the bottlenecks in your workflow where tasks get delayed or resources are underutilized and create a plan for it. 

For example, you can set up communication channels and establish clear processes to ensure smooth project execution. Leverage technologies such as project management software, CRM systems, and time-tracking tool to optimize efficiency. These tools provide transparency, enhance team collaboration, and enable better resource allocation. 

4. Maximize billable hours and utilization rates:

To maximize billable hours and utilization rates, you must optimize resource allocation. Assign your team members with tasks that align with their skills and expertise, thus reducing unnecessary rework and revisions. Regularly assess workloads and project timelines to avoid under or over-utilization of resources. Minimize unneeded internal meetings, administrative tasks, and unproductive downtime. This way, you can increase billable hours and maximize the productive time, leading to a higher net effective multiplier.

5. Negotiate better vendor terms:

Negotiate better deals with suppliers to secure favorable pricing on materials and resources. Building strong relationships with suppliers and develop long-term partnerships can lead to cost savings or favorable payment terms, ensuring a stable and cost-effective supply chain. This will positively impact your net effective multiplier, contributing to better profitability and financial sustainability.

6. Investing in Tools and Technologies for Effective Job Costing

Another great way of improving productivity and profitability at your creative agency is through agency project management system like Function Point. It offers seamless integration with your existing accounting software, real-time financial reports, and easy invoice and expense reports. 

Function Point allows you to gain a 360-degree view of the project’s financial status, compare planned vs. actual costs, and track billable and non-billable hours. From there, you can develop project estimates more accurately, and monitor all elements that impact your agency’s revenue and profit. To learn more, check out our free eBook on using project management software.

Conclusion

Accurate job costing is essential for creative businesses to thrive in the competitive landscape. The net effective multiplier is your must-have tool to calculate costs, quote pricing, and boost profitability. 

Keep an eye on your costs, make sure you get approvals from your clients and sell your time at a rate that will allow you to make a profit on all your work. The Net Effective Multiplier is a simple way to standardize the assessment of your profit potential. Embrace the net effective multiplier as a fundamental aspect of job costing will help you overcome the challenges of creative work pricing and achieve your business goals.

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