🧩🖊️🌳  Dear Agency Founder

How to calculate your agency's delivery margin and future-proof your profits

Discover the one financial KPI that can transform your agency's profitability, even as AI and automation reshape the industry landscape.

We're focusing on a KPI which, if you understand it, will future-proof your profits.

The agency business model is bound to start shifting around (because robots).

The typical advice and benchmarking around profit margins and metrics will change as the way we work evolves.

At the heart of those metrics is the delivery margin. In this article we're going to look at how to calculate it so that however your services change, you're going to make money.

How to calculate it

To calculate it you need to know 3 things.

We do the following sums:

Don't worry, I'm going to explain and I've built you a calculator (link below).

Stick with me, this is going to tell you some important things about the health of your business.

Plus, you'll become a more charismatic and interesting person.

Pass-through costs

I'm assuming you know what total revenue is, so I'm starting with pass-through costs.

Every business's revenue is inflated by things they bill for and get elsewhere.

In some agencies, this might be only a couple of font licenses. In others, it might be significant. Maybe you manage your clients' ad spend, and that involves paying for and rebilling the ads. Maybe you do web hosting and resell. Sometimes it could be a one-off: you had one project that needed a copywriter, so you contracted one.

This money wasn't made from the value you offer clients. You didn't make the font or build the hosting platform. It clouds our picture, especially when you are handling something bigger like ad spend.

We want to remove these costs and the money you billed on for them to isolate the cost of delivering your core services.

But I marked it up!

Then great. That part of it is yours. You provided value by sourcing and managing that service. That revenue is going to stay because we are only removing the price of the things we bought, not what we charged them on at.

Once you've removed pass-through costs from your revenue, you have Gross Profit.

Delivery costs

These are the things that deliver the work which people pay for.

This is staff costs and any contractors that deliver your core offering. Include contractors that increase your capacity to deliver the thing you do, not add a different skill. For example, a development agency using a freelance developer is a delivery cost. Using a designer for a one-off project is a pass-through cost.

If you, as founder, are billable in your agency, then delivery cost should include your salary.

As you get more sophisticated, you might split your staff costs and only include the utilised part in your delivery costs. You would take someone's utilisation percentage and put that bit of their salary and employment tax costs into delivery and the rest in overheads.

It's a fiddle to do so it's fine to start by using the full costs of your billable team.

When you start breaking it down you unlock a new metric: per-project profitability.

Would you like an article on per-project profitability? It's pretty exciting stuff!

Why do we separate delivery costs from other staff costs/overheads?

You are aiming to spend zero on anything that isn't billable.

Get leads and make sales for free. Work in your shed. Use the free trial version of every piece of software. Make everyone buy their own biscuits.

Of course, it's not realistic if you want to operate. You have to invest in people, skills, tools, and biscuits.

But this is the difference between overheads and delivery costs.

Unlike the overheads, delivery has to cost you something.

If you could deliver your value for zero cost then you wouldn't have a business because your clients could deliver it for zero aswell. You'd have zero value and no one would pay you.

You are not reselling your sales, marketing, or office. You are not solving anyone else's problem with these. And therefore, you don't need to invest anything in the solution as long as your own problem is solved.

This isn't the same for delivery. If you don't invest anything into your solution, then you don't have a solution to sell.

Let's calculate

Back to our sums

The industry benchmark for delivery margin is 55% - 65% if you are using your total billable staff costs and not splitting out by utilisation.

🧮 Now check out the calculator to work out yours!

What does it tell us?

A high margin means you are making good money but if it's too high you are either charging too much or not paying people enough. Great in the short term but not sustainable. Either clients will churn or people will leave.

A low margin is the opposite and, let's face it, more common. You might be paying people too much. But most likely you aren't charging enough. Here it is in cold hard figures. Now you need to do something about it to transform your business.

Told you it was worth knowing.

Why should I limit myself with that benchmark?

What about value-based pricing? Can you beat that without churning customers or staff?

I'm sure you can and believe in you.

Things are changing fast, and you can find a business model which beats this benchmark.

Delivery margin is still vital.

If you're creating a new business model, you need to be able to know it's fundamentally profitable enough. In amongst value pricing, scope creep, investing in your own IP, buying AI tokens and things we haven't thought of yet, it will be very easy to not make as much money as you thought you were going to.

Keep your eye on delivery margin and innovate your way through whatever the next 5 years throws at us.

What do you think?

I hope you enjoyed a bit of financial modelling.

I leant a bit hard on the 'accountants r boring lol' jokes because I'm lazy. But I genuinely think there's huge value in understanding how this works.

Use it build the business you want because, fortunately or unfortunately, it all comes down to money.