If you are getting standard financial statements each month from your bookkeeper or accountant, that is half the battle. However, the income statement (also known as a P&L or Profit and Loss) and the balance sheet don’t give you the full story. They don’t give you actionable metrics to manage pricing, hiring, and sales & marketing.
From working with IT service providers, they get tremendous benefit from reviewing the following top 5 metrics:
1. Labor efficiency multiple
Labor Efficiency Multiple (LEM) is a measure of how profitable your service delivery staff are. LEM is the dollars of gross profit divided by dollars of wages paid to everyone delivering services to clients. Take your service revenue plus your markup on reselling hardware and software, and that is your gross profit. That is all the money you have to pay your operating expenses after you pay your cost of good resold.
You can measure LEM at the company level as well as the client level and the employee level. We’ve seen company LEMs targets in the 2.5-4.0 range depending on business model and target net profit levels. Once you set your LEM target, you can staff up and down to maintain your target LEM as your company grows (or occasionally shrinks).
2. Contribution margin
Similar to LEM, Contribution Margin (CM) is a measure of how profitable your service delivery operation is. It factors in wages as well as taxes, benefits, tools, training, etc. To calculate your Contribution Margin, subtract the loaded cost of all your service delivery employees from your gross profit. Divide your Contribution Margin into your Gross Profit to get your Contribution Margin Percentage.
3. Utilization rate
This is a measure of how “busy” or “billable” your client service staff are. Range 75% to 90%. Higher can be good financially, though it can represent unsustainable burnout. Staff augmentation contracts can skew utilization up.
4. Monthly recurring revenue
The business model of most MSPs is based around recurring revenue. Monthly recurring revenue (MRR) is the contractually committed services that clients agree to pay each month.. Some MSPs have fixed monthly price agreements, while others have a prescheduled service plan that may be billed hourly but is based around a standard volume of services. Some MSPs can even cover their monthly operating expenses out of MRR with projects and T&M overage dropping to the bottom line as pure profit. The goal is to grow MRR.
5. Sales and Marketing Multiple
With MRR business models, the key is to invest in sales and marketing to acquire new MRR contracts. You can model out what percentage of client lifetime revenue, based on your client lifespan and Contribution Margin, you can invest in acquiring the client. You can further reduce this to how many dollars of sales and marketing to invest per dollar of MRR. Expressed as a multiple, this is your Sales and Marketing Multiple (SMM).