A simple delivery costing methodology for profitable pricing
Part 1 of this series – ‘How do you know you are investing time and resources in the right places for growth?’ looked at the metrics you should be tracking to help you to decide which of the opportunities for new in-demand services your company is best-positioned to seize.
Within this evaluation process, the most important decision you will be making is whether or not you can deliver the new service profitably; a decision that depends on knowing how much it will cost to deliver the new service – or at least an approximation of this cost, based on the delivery costs of your current services projected forward.
Because if you don’t know what it’s costing you now to deliver your current services– how can you set prices and allocate resources for anything new?
In this article I hope to help you to answer three fundamental questions:
- How aware are you of your service delivery costs?
- What metrics do you need to determine this?
- How can this information help you to determine pricing and resource?
Calculating for profit
The first step to determining profitability is to calculate the full hourly burden rate
This means calculating:
- The full billable labour burden, i.e. the total of all billable staff labour costs above and beyond gross compensation.
- The full overhead burden, i.e. the sum of all company overhead costs, including non-billable staff and, for example, rent, rates, training, fuel, utilities, telecoms, cleaning and so on.
The worked example below shows how to calculate the full hourly burden rate. You will need this to work out current service delivery costs and as a basis for calculating margins and setting prices:
Note – this does not take account of extended hours support; and, if you are providing 24/7 coverage, this becomes a totally different ball game. So we will stick with 8 hours a day for now.
The next step is to review the impact of staff utilisation rates on billable hours’ targets.
A utilisation rate of 100% sounds like a wonderful goal – but it would mean no holidays, sick days, or training time for your staff. There is no hard and fast rule about the ideal utilisation rate, which depends on many factors within your organisation – including team structure: there will likely be different utilisation goals across different teams. Many MSPs aim for around 75% utilisation – but some aim lower and some higher. You need to decide what works for you – but don’t forget to allow ample capacity for surges and future growth.
Assuming the full hourly burden rate of £21.03 taken from the worked example above, the sliding scale below shows how this rate increases as utilisation percentage decreases, so that at 75% utilisation the full hourly burden rate becomes £28.04, and at 65% – £32.35.
Once you know the cost of service delivery, you can calculate service margins as shown in the continuing worked example below. This is an essential prerequisite for setting prices.
Armed with this information you can start to drill down into the profitability of your service delivery, T&M and other professional services work – as well as into staff profitability.
Don’t forget to add in the anticipated cost of management time and the costs of any subscriptions such as RMM nodes, backup, AV and so on – and you will have all the information you need to review margins, mark-up and pricing – or project these onto new service areas.
How much potential billable time might you be losing?
The calculation above can also help you to understand how much money you may be losing in billable time per month. A recent Autotask Study gives an idea of just how many potentially billable hours are being lost each week – often on tasks that could be automated, eliminated or streamlined: 52% respondents admitted to losing up to 5 hours per week in such tasks; while, worryingly, some 20% did not know how much time was being lost.
As an aside, however, the same study pointed out that profitable time could trump billable time: non-billable time may be being used to generate new business, for example, and this could ultimately be more profitable for the company.
The key thing to remember is that the cost of service delivery is a major determinant of your pricing, which in turn will impact on your ability to grow.
One way of controlling cost is to contract with a partner, who already has the resources and infrastructure in place, to deliver services such as NOC and Service Desk.
Inbay can help you to save on the cost of NOC and Service Desk delivery – and allow you to redirect your own staff onto high value areas, thus increasing profitability and revenue.
Part 3 of this series will continue the pricing theme, exploring the different types of pricing models being used by MSPs today and helping you to decide which approach is right for your business.