Are your resources and rate structures optimized for profitability?

In the professional services industry, where time is money, ensuring profitability requires careful planning and execution. Many firms rely on billable hours to generate revenue, but simply maximizing billable time isn’t enough. This blog explores two key drivers of profitability: rate structures and resource utilization. We’ll also discuss the impact of skills mix, project management, and technology on overall success.

1. Optimizing Rate Structures

A firm’s billing rates are influenced by multiple factors. Here are a few examples:

Expertise: skills that are in short supply are able to command higher rates
Reputation: a firm’s reputation directly impacts the rates they can command in the marketplace
Client mix: larger clients are able to pay higher rates than smaller ones

Highly specialized skills are priced higher than non-specialized. This is why most service firms assign roles/skills to manage their resource pool. However, a major influence on the profitability of an engagement is the mix of skills involved in service delivery. The gross margin for each skill/role is impacted by the cost of the resource. Higher skilled resources cost more; therefore, staffing an engagement with the most expensive resources results in lower profitability than if it was staffed with a mix of senior and junior resources.

In fact, the larger the proportion of junior resources, the greater the profitability. This is why you see law firms heavily using paralegals or audit firms using a high proportion of junior staff to seniors. The margin contribution generated by lower skilled/less experienced resources are typically higher than highly skilled/more experienced resources.

One of the areas we see a breakdown in optimizing rate structures is the lack of alignment between how an engagement is sold and how it is delivered. During the sales cycle, proposals are developed using a specific resource skill mix, and hence, varied rate structures that tend to maximize the profitability of the engagement. However, when it comes to delivery of the contracted services, the skill mix of the delivery resources does not always align with the proposal/budget. This immediately creates an actual vs. budget variance that is not the result of the typical cost or time overruns on a project.

Project Managers and Resource Managers need greater visibility into the proposal or estimate from which the budget is derived. Modern service automation applications provide end-to-end visibility, and integrated resource management applications generate resource requirements based on the skills mix they are planned to use. This reduces the margin erosion created by disparate applications which do not provide the deeper operational visibility found in fully integrated solutions.

Additionally, having the right people with the right skills available at the right time is essential for project success. Poor staffing choices can lead to delays, rework, and client dissatisfaction.

Skills Matrix: Develop a comprehensive skills matrix that maps employee expertise to project requirements.
Knowledge Sharing and Upskilling: Foster a culture of knowledge sharing and invest in ongoing training to ensure your team has the skills needed to tackle upcoming projects.
Resource forecasting: Leverage fully integrated applications that can provide comprehensive resource demand and supply information, which assists in staffing the right people at the right time.

2. Utilization

In the professional services industry, the clock is always ticking when it comes to profitability. Your resources are your most valuable asset, and maximizing their utilization rate is a key driver of profitability. When we hear the word ‘utilization,’ we typically think about a metric that measures resource billability, i.e., how much are they billing? The formula for calculating utilization varies by firm and industry. Utilization KPIs are calculated using operational data from your project management and accounting system. Is it just a percentage of billable hours over available hours? There is much more involved in optimizing utilization and profitability.

Influencing factors, which can be found in unstructured data and intangibles, and impact utilization are not always readily available, nor can they be readily quantified. Here are a few examples:

Prior relevant work experience: staffing and engagement with resources who have delivered similar work in past projects will enhance productivity and reduce risks of poor quality, rework, and budget overruns. Increased productivity reduces time to deliver, which may appear counter-intuitive for a services firm that thrives on maximizing billable hours. However, faster completion of projects increases the number of engagements a firm can deliver in a given period, aka engagement turnover. Completing 10 engagements in six months is better than completing 6 over the same period. Why? A traditional services firm’s revenue split is 60% from existing customers and 40% from new customers. Increasing the number of customers directly increases longer-term revenue contribution.
Service delivery methodology: how you deliver your services directly impacts customer satisfaction, work efficiency, project success, write-offs, utilization, and ultimately profitability. Methodology defines scope, approach, timelines, quality reviews, project management, and governance. Getting one or more of these factors wrong will impact profitability.
ETC Management: forecasting ‘Estimate-to-Complete’ is an essential aspect of project management. Monitoring your burn rate (how fast you are consuming budget), budget vs. actual to determine change order options, and Earned Value Management (EVM) are some of the critical elements in maximizing utilization and profitability.

Leveraging fully integrated operational and accounting systems such as Dynamics 365 Business Central and Progressus if you are a small or medium-sized company or Dynamics 365 Finance and Dynamics 365 Project Operations if you are a large company will enable this level of utilization and profitability management. With the addition of Generative AI assistants, deeper insights, automation, and consistency allow resources to focus on value-based work, ultimately driving increased profitability.

Frequently Ask Questions

#1. Our firm employs a lot of junior staff for projects. Are we sacrificing profitability?

The answer is not necessarily. While senior staff have higher billing rates, their cost is also higher. A well-balanced team with a mix of senior and junior staff can actually be more profitable. The key is to ensure the project is staffed with the right skills at the right time.

#2. Our sales team proposes projects with a specific resource mix, but the project managers use different staff. Is this hurting our profits?

Yes! Margin erosion can occur when the resources used don’t match the proposal. When the project team uses resources with different rates than those assumed in the proposal, it can lead to margin shortfalls.

To bridge this gap, improved visibility between sales and project management is key. Ideally, you’d want operational and accounting systems that provide a comprehensive view of project details and resource availability. This transparency equips your team to ensure projects are staffed with the right people at the right rates, safeguarding profitability.

#3. We focus on maximizing billable hours for our staff. Is that the best way to boost profitability?

There’s more to utilization than just billable hours. Experience, service delivery methodology, and good project management can all influence how efficiently your resources are used. The key is to complete projects faster and with higher quality, which can lead to more engagements and, ultimately, more revenue.

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With 30+ years of experience, Velosio helps professional services firms identify hidden value and implement custom tech solutions to tackle your challenges. We work as your partner to maximize your return on technology investment.

Optimizing Rate Structures and Utilization for Professional Services Firms