A few weeks ago, Drew McLellan co-hosted a webinar with Function Point; in a relevant and highly valuable session with FP’s customers, Drew shared his recommendations on how agencies can better tackle business uncertainties and sustain growth especially during trying times.
Drew is the owner and key driving force of the Agency Management Institute (AMI). As part of AMI, Drew has been coaching hundreds of creative agency owners on how to run their business to achieve 20% profit margin and do it sustainably.
In his discussion, he focused on 3 primary areas:
• Key financial, client, and employee metrics to help agencies weather the storm
• How to fix any metrics that are out of alignment
• How often to be monitoring these
This post summarizes the key learning and highlights from our discussion with Drew; you can catch the complete recording of the webinar here.
Metrics that every agency should be monitoring on a monthly basis
Adjusted Gross Income
According to Drew, Gross billing or gross revenue is really just a vanity number, which may not truly reflect the performance of your agency. Revenue is the amount of money you bill the client for the work that your agency undertakes over a certain period. However, 100% of agency revenue includes Cost of Goods Sold (COGS) defined by money that is payable to your vendors such as ad spend, and money that is available to you to operate your business, or in other words, Adjusted Gross Income (AGI).
What independent agencies should really focus on is AGI: the sum spent on salaries, overhead costs, and profit before taxes.
Taking a closer look at AGI, Drew mentioned that in an ideal scenario nearly 55% of this sum should go towards salaries, 25% towards overhead, and about 20% towards profits.
AGI per FTEs (Full Time Equivalents)
How agency owners perform on employee metrics can often be the deciding factor behind whether or not their agencies can survive an economic downturn. The decision to reduce staff or their pay can be a tough one and before you choose to employ either alternative, Drew has a few metrics he claims can better inform those decisions.
As a rule of thumb, Drew recommends that in a normal year, an agency should have $150,000 of AGI per FTE. At this ratio, you can maintain the 20% profit we referred to earlier. Alternatively, at about $100,000 of AGI, that profit percentage drops significantly.
This is a crucial financial metric that agencies should keep a close eye on as most agencies are over staffed and are likely unaware of that because they haven’t found the right metric to track over-staffing.
Billable to Non-Billable Staff
Drew defines “Non-Billable Staff’ as 50% or less billable; in his experience, at the most 1 out of 5 employees is Non-billable. This would usually include the agency’s bookkeepers, CFO, accountants and such. In other words, agencies must ensure that for every 1 person that is non-billable, 4 other billable employees are needed to offset that. This metric includes all staff including agency owners.
Billability vs. Utilization
Another key metric that Drew recommends agencies should use is measuring billability vs utilization. Of all the time an agency collectively logs in its time sheets, Drew suggests that 75% of it should be spent on doing things that can be billed to the client, whereas 60% of the time logged is billed to the client. In short, a staff should be 75% Billable and 60% Utilized.
Function Point’s reporting system allows you to calculate the percentage of billable hours of your agency over any period of time without manual Excel work.
Tracking this metric can help you determine if you are underbilling, where your team is spending its time, or if you’re tracking time incorrectly.
Profitability by Client
This metric is a simple way of finding out which clients are making you money and which ones are costing you. Function Point’s Profitability by Client report does exactly that.
As a benchmark, a client contributing anything less than 10% profit should be unacceptable- Drew’s recommendation is to keep 10% as a disciplined threshold.
Profitability by Job Type
Drew suggests using the metric as a means to make more informed business decisions around choosing to offer jobs that are your agency’s forte versus those which are simply a way to keep your foot in the door. Either way, knowing which job types are making you the most and least amount of money is essential. Like Profitability by Client, Profitability by Job Type should not go lower than 10%.
Most agencies run into operational challenges because they run out of cash, and this is especially true during a recession or in adverse economic times when client payments slow down drastically. It is exactly for this reason that updating your cashflow projections on a monthly, or even weekly basis, is critical.
The 2 elements agencies should keep a close eye on are cash on hand and the projection of cashflow in the coming months.
Cash on Hand
As a rule of thumb, Drew suggests agency owners should ensure that they have approximately 2+ months of cash on hand. This number jumps up to 4+ months if you happen to have a client who accounts for more than 25% of your AGI.
Cash Flow Projections
Drew offered a list of 4 questions for agencies to answer in order to accurately project cash flow. Keeping a 30-60-90 days (1 month, 2 months, 3 months) cycles in mind, address the following for each cycle:
• What milestones or projects will you complete and bill in 30-60-90 days?
• What work will you sell or start in 30-60-90 days?
• What are the estimated expenses for 30-60-90 days?
• What is the net of your income vs expenses for 30-60-90 days?
There are multiple different metrics that agencies monitor and assess performance on. Drew strongly recommends that the 4 fleshed out above are what will reveal the true health of your agency and allow you to make the right business decisions during or outside of a precarious economic slowdown.
To learn more, view the complete recording of the webinar here.
For more agency-specific resources, visit www.agencymanagementinstitute.com/covid.