Operational efficiency is more than just a buzzword—it's the driving force behind successful agency businesses. With agencies primarily focused on selling time, their prosperity and productivity rely on striking a delicate balance between meeting deadlines and maintaining a healthy, engaged team.
Profits and workplace sanity depend on the ability to manage workloads and accomplish each task predictably and efficiently. Don't wait until it's too late—seize the opportunity to invest in operational efficiency now.
At Parakeeto, we have a singular mission: to help agencies worldwide measure and enhance their performance.
Let's dive into the insights and tools necessary to elevate your agency's efficiency to new heights!
Five essential metrics for operational efficiency
Operational efficiency is characterized by streamlined processes, optimal resource utilization, and the ability to deliver high-quality services to clients in a timely and cost-effective manner while maintaining a healthy profit margin. Achieving operational excellence in an agency requires a strong focus on financial and non-financial metrics.
Financially, an efficient agency will have a robust delivery margin and balanced overhead spending ratios relative to their agency gross income (AGI). However, non-financial metrics are the missing puzzle pieces that unlock operational effectiveness and efficiency. These metrics determine your delivery margin and reveal where opportunities for improvement lie within your agency.
Let's explore five essential metrics:
1. Delivery margin (financial)💰
Firstly, your primary driver of profitability at your agency is your delivery margin.
Delivery margin = (AGI - delivery expenses) / AGI
Delivery margin measures your profitability by subtracting delivery expenses from your revenue (AGI) and calculating the percentage of profit remaining. AGI is the true income of your agency. It's arrived at by taking your gross revenue and subtracting your pass-through operating expenses.
Then, delivery expenses are isolated to understand the cost of earning that AGI by getting the work done and delivered. Delivery expenses include the payroll allocated to the delivery team and some shared delivery expenses like software and tools necessary to facilitate the team's work.
Signal of success: Your delivery margin is 50%+
You're doing great if you're in the 50-60% range for your agency-wide delivery margin. If you're measuring this at the client or project level, you'll generally look for 60-70%+.
2. Overhead expenses (financial)💰
Next, let's take a look at your overhead expenses. If your overhead spending is within the industry standard, that's a signal for success.
We typically group overhead into three categories: admin, sales & marketing, and facilities. You are aiming for your overhead spending to be 20-30% of your AGI.
Here are some guidelines on how those can be broken down, but keep in mind it doesn't matter what this split is, as long as it's in the 20-30% range:
- Your administrative expenses should be 8-14% of your AGI range. If your annual AGI is $500K, you should spend 40-60K on admin.
- Similarly, you will want to spend anywhere from 8-14% of your AGI per year on sales & marketing.
- Finally, the range to aim for in facilities is 4-6%. Those of you running fully remote companies may have little or no facilities expenses.
3. Average cost-per-hour (non-financial metric)💡
Average cost per hour (ACPH) measures how much you spend on payroll per hour worked. The formula for delivery margin is mainly responsible for optimizing how much delivery cost is incurred relative to AGI.
ACPH = total payroll cost & benefits / total hours
Total payroll cost includes salaries, benefits, taxes, and other fees directly related to employing people, and total hours is the number of hours your team worked in a given period.
Generally speaking, an operationally efficient organization would have an ACPH of ⅓ of its ABR. What matters is how your ACPH is relative to your ABR/AGI.
Here is a calculator you can use to figure out your ACPH.
4. Utilization rate (non-financial)💡
Another way to improve your delivery margin and, therefore, your operational efficiency is to increase your utilization rate. This metric measures the capacity used for revenue-generating activities in a given period.
Utilization = delivery hours/capacity
The capacity is the total number of hours available for the team, while delivery hours refer to the hours spent on client work. To have an accurate view of your team's total capacity and availability, ensure you have a solid capacity planning strategy.
To have an operationally efficient utilization rate agency-wide, you should aim for 50-60%. This includes the agency's sales, marketing, administrative staff, and delivery team. However, if you're only looking at the delivery team or specific roles like designers or developers, you should aim for a utilization rate of 70-90% weekly, depending on your agency's culture. If you factor in vacations and sick days, the yearly utilization rate may be more like 60-80%.
Did you know?
Using resource planning software like Float helps ensure your team isn’t underutilized or overbooked and that you maintain optimal utilization rates. Keep track of capacity, allocate work efficiently, and automate tasks like time tracking with pre-filled timesheets.Learn more
5. Average billable rate or ABR (non-financial)💡
You will want to keep tabs on your average billable rate (ABR), which measures the efficiency of your team's revenue generation. Your ABR on a project or agency-wide basis is calculated by dividing the total agency gross income (AGI) by total delivery hours.
ABR = AGI / delivery hours
Delivery hours refer to the hours spent on client work, and AGI (as mentioned above) is revenue minus all of your pass-through expenses.
➡️ Find out more about managing and tracking your billable hours.
Should you focus on financial or non-financial metrics?
When optimizing operational efficiency, it's essential to focus on financial and non-financial metrics. While financial metrics offer precise information, they have limitations in day-to-day operations due to their lagging nature, costs, and complexity. On the other hand, non-financial metrics can be more timely and easier to understand, making them more suitable for empowering your team to make informed decisions.
Financial metrics alone do not provide a comprehensive understanding of your agency's efficiency. For instance, an agency owner might fixate on lowering overhead expenses to improve profitability without realizing that the real issue might be a low delivery margin and insufficient AGI generation relative to the team's operational cost basis.
To uncover opportunities for improving efficiency, it's crucial to understand whether the problem lies with delivery margin or overhead expenses. Evaluating both financial and non-financial metrics can help identify the root cause of the issue and provide more frequent performance touchpoints, ultimately assisting with forecasting and decision-making.
By measuring three key non-financial metrics—average cost-per-hour (ACPH), utilization rate, and average billable rate (ABR)—alongside financial metrics, you can diagnose issues with delivery margin and uncover opportunities to achieve greater operational efficiency.
Incorporating both metrics into your evaluation process will enable you to make better-informed decisions and create a more efficient and profitable agency.
➡️ If you want to drill down to the project level to evaluate efficiency and success, check out our guide to project evaluation.
Three ways to improve operational efficiency
It's essential that everyone is satisfied with their workload and compensated fairly for their efforts. Additionally, streamlining planning processes can help projects run smoothly, ultimately making it easier to predict workflows and project outcomes in the future.
To achieve this, you have three levers: decreasing ACPH, increasing utilization, or increasing ABR. All of these have a positive impact on your delivery margin.
1. Decrease hourly costs
To lower your average cost per hour (ACPH), you can employ effective strategies such as process, technology, and templatization to simplify tasks and decrease the level of expertise required to complete them.
By reducing the level of judgment needed, you can assign tasks to more junior staff or outsource them, resulting in lower costs. This shift may be felt immediately for agencies that rely primarily on freelance or contract labor. In contrast, for companies that rely on full-time employees, the impact will be felt over a more extended period as they adjust their team composition.
This approach can significantly lower delivery and payroll costs, improving delivery margin and increasing operational efficiency.
➡️ Download one of our project planning templates to save time on repetitive tasks.
2. Improve utilization
Increasing your utilization rate will also positively impact your operational efficiency.
Evaluate your team composition, reduce administrative burdens, invest in process automation and streamlined processes, and limit the number of clients an employee has to handle at a given time.
Improving utilization is crucial, and capacity forecasting is an essential aspect. Top-down forecasting provides directional insight at the beginning of the project lifecycle, while bottom-up forecasting provides detailed plans later on an individual basis. Take advantage of tools like the agency profit toolkit to model your utilization effectively.
It should be noted that utilization shouldn't be used as an employee performance target, as doing so may result in inflated timesheets or delays.
3. Increase your average billable rate
To increase your average billable rate (ABR), you can raise your prices or reduce the time needed to deliver your service.
If you choose to raise your prices, do so without increasing the scope of work or spending more time. Reevaluate your pricing models to ensure you're pricing your services effectively. With Float, you can track your billable hours and rates and how they stack up against project budgets.
If you reduce the time needed to deliver your service, focus on improving processes and investing in technology, workflow automation, and templatization. Aim to get the same work done in less time without undermining the quality of work. With the right resources, it is possible to achieve this goal!
How do you measure success in your efforts?
How can increased operational efficiency be measured? The evaluation process can be divided into financial and non-financial metrics.
From a financial perspective, success can be measured by examining the delivery margin percentage and the ratio of overhead spending relative to AGI. Both indicators will reveal whether the agency is on the right track. However, it's important to note that it may take longer for improvements to be reflected in the financial metrics.
A quicker and more precise way to measure results is through non-financial metrics. The three main levers—ACPH, ABR, and utilization—can demonstrate whether improvements are being made. The objective is to increase ABR and utilization while maintaining or decreasing ACPH. This means the agency's AGI is rising while the delivery cost remains the same or decreases, ultimately improving the agency's fundamental profitability.
An example of a positive impact on delivery margin
Suppose a creative agency builds brand profiles and has just completed its first year with $500,000 in AGI and $275,000 in delivery costs. The current delivery margin is 45%. The agency can decrease ACPH and increase utilization/ABR to improve that figure.
If ACPH decreases by 8% over the year, delivery costs may drop from $275,000 to $250,000, resulting in an improved delivery margin of 50%. Furthermore, if the agency increases its ABR by raising prices or streamlining processes to deliver the same quality work faster, there might be a $50,000 increase in AGI. The impact on the delivery margin would then look like this:
($550,000 - $250,000) / $550,000 = 54%
Finally, the last lever for improving utilization can also impact AGI. By keeping the team busy with more revenue-earning work, the AGI for the year might increase to $600,000. Observe the impact on the delivery margin below:
($600,000 - $250,000) / $600,000 = 58%
In this example, by focusing on non-financial metrics and making improvements in ACPH, ABR, and utilization, the agency was able to significantly increase its delivery margin and overall operational efficiency.
Achieve greater efficiency with Float
Use Float's project and resource planning tool to manage multiple projects, monitor capacity, and track time with confidence.Try for free
Who is responsible for improving efficiency?
Improving the operational efficiency of an agency is an ongoing responsibility that everyone should share in the organization.
However, operations and project management staff usually have the most significant opportunity to impact efficiency. This is because they are involved in decision-making at the organization's leadership and delivery team levels and are often responsible for championing business process development and change management.
One of the reasons efficiency problems persist is that it can be challenging for these team members to contribute to continuous improvement efforts without access to the correct data. By providing the necessary information and resources, they will be better equipped to implement the profitability flywheel model and work towards optimizing operational efficiency across the agency.
By utilizing a data feedback loop that incorporates financial and non-financial metrics, the entire team can review and learn from the data to inform process enhancements. This collaborative approach embeds efficiency into the organization's DNA and helps team members understand the importance of time tracking and working towards common goals.
By leveraging the profitability flywheel and involving everyone in the process, your organization can foster a culture of efficiency and drive long-term success for all stakeholders.