196: Productize Your Service with Greg Alexander

13
Feb

Greg Alexander, the founder of Collective54, the mastermind community for boutique professional services firms. We discuss about the secrets of a good mastermind group, the Boutique Framework, steps to productizing a service and how to benchmark yourself as a professional service firm.

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Productize Your Service with Greg Alexander

Our guest is Greg Alexander, the founder of Collective54, the mastermind community for boutique professional services firms. My name is Steve Preda. Greg, welcome to the show.

Good to be here. Thanks for having me.

So Mastermind Community for Professional Services Firms, that’s obviously something that is close to my heart. I’ve got the big book on my desk, you know, Managing for Professional Services Firms, that’s kind of my Bible as well. So tell me a little bit about your journey, Greg, how did you go to the point where you decided that this is your calling to have a mastermind for professional service firms and what’s been your binding road?

Yeah, so I was a founder of a consulting company called SBI, which stood for Sales Benchmark Index. I had that from 2006 to 2017. We were a management consultancy, kind of a very small version, specialized in benchmarking business-to-business sales forces and helping them improve their productivity. And I sold that firm in 2017 and thought I was done. I thought I was going to retire at that point, but I was still a relatively young man. I was 47 years old. And after traveling around and having some fun, I decided that, you know, there was still some things that I wanted to do.

And I’ve been a long time member of Mastermind Communities. I started with EO and then I became a YPO member and then a Tiger 21 member. And I really liked the concept of mastermind communities. So when I started thinking about what I might want to do in the second half of my life, I realized that this community of what I call boutique professional services firms, which are dimensionalized as let’s say between 25 and 250 employees or so. And this is consultancies, marketing agencies, IT service firms, accountants, lawyers, architects, people that market, sell and deliver expertise. They were underserved.

There wasn’t enough mastermind communities. The ones that existed probably weren’t serving that particular community, which is a very well-defined niche, as well as they should be. So having been one of them and kind of gone full cycle from starting, scaling and selling a firm, I thought I could contribute there. So I married those two things together, the love of the mastermind community business model and the passion I have for helping entrepreneurs and I put them together and that’s how it came to be.

So in your mind, what are the secrets of a good mastermind group?

Well, first, it’s the quality of the peers and the members of the group have to be true peers, which means they have to be people in a similar role, working on similar challenges at a similar stage of business. That would be the first one. The second one is the members themselves have to truly be bought in and be willing to participate and engage. I would say a third is there’s gotta be high quality programming and educational material, inclusive of data, benchmarking data that can help people make sound decisions.

There’s gotta be a healthy relationship amongst the members. So one day I might be a mentor, the next day I might be a mentee. And there’s a lot of give and take, if you will, that needs to happen. Got to be a great events calendar. Those are some of the concepts that I would say that make for a great mastermind community.

I like the benchmarking piece, which is not always available. So if you look at EO, I don’t know EO, it’s very specific, but I know Vistage, YPO, I don’t know if they are using much benchmarking at all. And that is very, very helpful. So whenever I meet with a group where they use benchmarking, they are much clearer on what they’re trying to achieve. They know what the standard they have to hold themselves to. And it’s generally, it creates a lot more accountability around these groups.

You know, in these small businesses, they’re all private. So there’s not a lot of information in the public domain. So if a facilitator, in this case, Collective 54, can collect the data from willing participants in the community and then present it back in such a way, it’s very valuable. The data is there. It just has to be put together and shared correctly.

That’s right. Ok, so let’s talk about frameworks. This podcast is mostly about blueprints, frameworks that businesses stumble upon. And we talked about the Boutique framework that you described your framework. Can you explain what it is and how it operates for professional services firms?

So the Boutique framework is a life cycle framework. It’s 15 years, start to finish. There’s three stages. Stage one is a growth stage, stage two is a scale stage, and stage three is the exit stage. You spend approximately five years in each stage. And it’s designed to help business owners of this specialized asset known as a professional services firm, you know, go on that journey and reach the finish line.

The Boutique framework is a life cycle framework was designed to help business owners of this specialized asset known as a professional services firm, to go on that journey and reach the finish line. Click To Tweet

Awesome. So, let’s say I have this professional service firm, maybe it’s an investment banking firm, the firm I had. So maybe I’m in year three, I have a few employees, maybe four or five, and I’m growing. So how do I know I’m getting into the scale phase?

So in the growth stage, you’re trying to figure out a set of items. For example, you know, who is our ideal client profile? Which problem is present in the marketplace that I’m uniquely qualified to solve? What should my revenue model be? What should my go-to-market model be? All the basics of launching a firm. And in those first two or three years, to stay on your example, you’re really worried about proving out the business model and proving that you can satisfy clients, satisfy employees, turn a profit, and there’s a going concern here.

Most of those businesses would be in the category of a lifestyle business. What that means is that the business is completely dependent upon the founder or founders to be successful, and that’s very common. Now when you make the transition out of the growth stage into the scale stage, you’re moving from a practice to a firm or from a practice to a boutique.

And this is where you’re building systems, methodologies, tools, processes to reduce the dependence of the brilliant founder or founders. So for example, you might productize your service. You might build out an executive leadership team for the first time. You might leverage the global talent base as opposed to just a domestic labor force. You might automate through technology. These are all things meant to build scale into the organization.

And then lastly, when you move into the exit stage, you’re starting to work on a different set of challenges, which is, how does this boutique firm become an asset that somebody might want to buy? And there you’re trying to think about things like the predictability of the revenue stream, EBITDA margins, de-risking the business by removing client or revenue concentration, et cetera. So as you can see, there’s very different things as you move through the journey.

I love it. It makes a lot of sense. I love this idea of building a leadership team. So you are essentially delegating the managing of the business. You’re making the business self-managing. Then you productize, you make the product repeatable and then scalable, essentially. And then you automate so that you reduce the labor element and you improve the margins. That is a great way of describing the scaling phase. And then you prepare for exit, you want to maximize the value. Now, I’m particularly interested in the productized idea, this came to be, came to, I think, vogue this idea of productizing services maybe 20 years ago, and a lot of businesses have sprung up around productizing service and then driving recurring revenue around the productized service. So what are the steps to productizing a service? How does it work?

Well, the first step is to standardize around a problem. The obstacle to productizing a service is doing custom work. And custom work is usually a result of doing work for clients across a very wide set of problem areas. And that’s attractive in the beginning because it’s a source of revenue. The work is intellectually stimulating. Clients place a high value on custom work. It’s an opportunity to differentiate yourself from some bigger firms. But by definition, it’s very, very hard to scale that business because every single project is a unique snowflake, so to speak.

So the first step on productizing your service is standardizing around a problem. Once you have a standard problem that you’ve decided to bet the firm on and go forward with, you then start architecting the solution to the problem. My point of view is a tool to use there is called the work breakdown structure. You’re probably familiar with that tool.

The first step on productizing your service is standardizing around a problem. Click To Tweet

Basically, what it does is it takes a set of deliverables that you might issue to a client and breaks them down all the way to the task level. When you understand work at the task level, you can say to yourself, how long is it going to take to complete that task? What are the skills and knowledge required to complete that task? And I break down the work. That’s why it’s called the work breakdown structure. And once you get down to the task level, you can truly see what is able to be productized.

For example, there are several tasks that can be done by the machine today, as opposed to a person. And I anticipate that that trend is going to continue because we’re now in the early stages of artificial intelligence, and the machine will be more and more capable going forward. And when a task or set of tasks can be completed by technology, you know, they work 24 hours a day, seven days a week, 365 days, you know, with no bathroom breaks, no vacation time, et cetera, so it’s highly scalable.

The second set of tasks are things that can be performed by relatively low skilled labor. And this is an area that often trips people up. They have senior people doing junior work and therefore it becomes highly expensive to deliver the service and tough to productize. So once you understand the tasks that can be done by low skilled labor, you can standardize that. You can create a methodology for it or a checklist or a set of tools. And therefore you’re now no longer beholden to the unique expertise or skills of a specialized piece of human capital.

And you can often ship that work into the gig economy and leverage the global workforce and have it be a commodified solution that can be bid on. And you can really drive down the cost of that. The next level up from that is the non-commodified work. So the work that can’t be done by junior people, but maybe it can be done by mid-level people. And there you’re probably blending, you know, skills and knowledge with commoditized work. And you can still make sure that the senior partners of the firm are not doing that work and you can standardize to a degree, although not as purely as the two previous examples.

And then, of course, that leads, you know, the top of the pyramid, if you will, which which is the work that does really require judgment, creativity, brilliance, that can only come from years of experience. So in professional services, productizing a service, I would say it’s unlikely to have a service completely productized. Otherwise, you would be known as a software company. But you can get it standardized and productized to a degree.

The top of the pyramid is the work that does really require judgment, creativity, brilliance, that can only come from years of experience. Click To Tweet

You know, in the, you know, you held up David Meister’s great book, I forget what his nomenclature was, but at the bottom of that pyramid, there was all this kind of grunt work, for lack of a better term. That can be, these days, through technology, can be completely productized. And then there’s the next step up from that and the next step up from that. So for those that are listening to this that are in the professional services space, if less than 50% of your service is productized, you’ve got a problem. And you should be shooting for somewhere between 50% and 80%. And the impact that that has on your business from a margin expansion standpoint, scalability standpoint, can’t be overstated.

Very interesting. Ok, so I’d like to learn more about that, but I think our time is limited. So let’s switch gears and let’s talk about why this is the golden era for professional service firms.

Well, it is the golden era. I’ll give you some stats. And these are I’m quoting from IBIS World Report, which is a leading market research firm. So just in the United States, it was two trillion dollars spent in 2022 on professional services, two trillion, which makes it one of the largest industries that we live in. It has a organic growth rate of 5%. And normally when you have a market of that size, 2 trillion, organic growth doesn’t hit 5%.

If you think about 5% on 2 trillion, you know, this market is growing extremely well. So it’s a wonderful time to be in the professional services space because there’s so much demand. So the question is, what’s causing the demand? What’s causing the demand is that the purchasers of services, it’s really hard for them to keep all of the skills that they need to digitize their business internal. And the reason for that is because things move so quickly. So, for example, I’ll take a little example because we serve marketing agencies a lot. It wasn’t too long ago that Facebook was the hot thing.

So if you were a chief marketing officer of a software company, you might try to build a Facebook team inside. Then all of a sudden Instagram came along. So what do you do with all those Facebook people? Then all of a sudden TikTok came on. Then all of a sudden LinkedIn was a dominant thing. So it’s moving so quickly that it’s just better for executives to rent expertise than it is to bring it in-house.

This idea of the gig economy, for lack of a better term, just makes a lot more sense because the world is moving so quickly. So that’s what’s creating demand. And you can say the same thing, not just in marketing, but all functions. I mean, one of the fastest growing areas of professional services right now is the fractional CFO. And the reason for that is in the mid market or the small market, those companies probably don’t have enough work to employ a full-time CFO. So if they can rent a portion of the CFO, as an example, it makes a lot of sense.

And the number of firms that is being created as a result of all this demand is staggering. I mean, just in our niche alone, there’s just under 1.5 million firms in the United States, between 25 and 250 employees in industry code 54. You know, that’s up from 1.3 million just a handful of years ago, and we’re expecting that to grow dramatically. So this is the reason why it’s the golden era of professional services. There’s a tremendous amount of demand for these services.

And, you know, it used to be back in the day, Steve, maybe when you and I were quite a bit younger, you know, corporations only hired, you know, big brand name firms because they were risk averse. That’s no longer the case. You know, large corporations now award business to small niche providers because they feel that those small niche providers are that much more differentiated. And they’re willing to give business to small firms. And that has resulted in an explosion of firms. So it’s just a wonderful time to be in this sector.

I love it. No, I’m so glad I’m in this sector now. 5% organic growth, I can be there. Okay, so how do you know if your business is doing well? So you talked about benchmarking. And obviously when you have a mastermind group, then you can, people can give information confidentially to the mastermind leader and then you can aggregate, you can share the information. Are there other ways to benchmark yourself as a professional service firm?

There are. So why don’t we take one example to illustrate this? So let’s talk about profitability. So the benchmarks for profitability are 80% gross margin and 50% EBITDA margin. So those are the numbers that you should be shooting for. And if you hit those numbers, you know you’re probably a top quartile firm. So let’s discuss those two numbers. So 80% gross margin. So the definition of gross margin in a services firm is revenue minus the direct labor cost to deliver the service.

The benchmarks for profitability are 80% gross margin and 50% EBITDA margin. So those are the numbers that you should be shooting for. And if you hit those numbers, you know you're probably a top quartile firm. Click To Tweet

So if you’re a $10 million firm and you have $2 million in delivery personnel tied up, you got eight million dollars left over, that’s an 80% gross margin business. If you’re not hitting 80% gross margins, then one of two things are happening. You’re either not charging enough for your services or your labor cost is too high. So just off that one number alone, it can direct you strategically on where to go.

Now to go from gross margin to EBITDA margin in services is really two expenses that come out of the gross margin line. There’s the overhead number and then there’s the sales and marketing number. Overhead these days post pandemic because rent has been eliminated is very low. It tends to be between five and 10%. So that leaves the remaining dedicated to sales and marketing.

So if you combined overhead and sales and marketing expense, it’s roughly around 30% of the expense line. So if I take 30% off of 80%, then I’m with 50% EBITDA. Now, if you’re not at 50% EBITDA, you got to ask yourself the question, maybe I’m spending too much on sales and marketing, or maybe I’m spending too much on overhead. And that can help me manage through my P&L to try to answer the question that you posed to me, which is, how do I know if I’m doing well?

So that’s just one example of benchmarking if I just look at firm profitability. Of course, you can go to all the operational metrics as well, which are traditional things like client satisfaction, repeat purchase rate, referrals, or maybe even internally, things like utilization rate, or realized bill rate, et cetera. There’s a very long list of KPIs that one can benchmark themselves against to determine whether they’re doing well.

Wow, 50%, EBITDA margin sounds very high. I mean, for a consulting firm, that’s doable. For a law firm, for a medical firm, I guess this could be doable, but that doesn’t sound like, I mean, this is really best of class, right?

Top quartile are the numbers that I just gave you. Although I will tell you, the historical norms are being broken down. You might think 50% EBITDA historically is high. It’s not anymore. Why? Tech automation, productizing a service, leveraging a global workforce, all of these trends that we’re living through right now are substantially decreasing the cost to run a service firm and increasing the scale of the firm. And the combination of those two things, an increase in scale and a decrease in cost is expanding the margin profile radically.

Yeah, I mean, I’m wondering if the reason for the country avoiding a recession in situations of high inflation, a lot of money being printed, coming out of pandemic, supply chain, I mean, there’s got to be something going on. I thought maybe it’s, as you say, it’s outsourcing to a global workforce is a reason. Maybe AI and other technological revolutions are a reason to reduce costs to such an extent that actually profitably increasing and we are avoiding the recession as a result. Do you think this is something to do with that or there are other factors?

Well, I think we are in a recession and I think 2024 is going to be a year of recession. However, I think the recession will be shallow and I think we’ll recover from it quickly. The thing that’s held out so far is employment. I mean, employment, unemployment is still below 4%. So as long as the consumer, which is 70% of the U.S. economy, has a high-paying job, they’re probably going to spend and keep it going.

However, you know, we’re starting to see cracks in that. I mean, I just read this morning that delinquencies on auto loans are up. Credit card debt is at an all-time high. So I think there’s a little bit of a delay factor, but listen, I’m not an economist, so take this with a grain of salt. But the reason why I think we’ll emerge out of the recession quickly is because what takes per capita income up is productivity. Productivity is measured in output per hour.

So if you think about some of the things that we’re talking about today, the output per hour, particularly in professional services, is gonna go up dramatically. I mean, just by using a machine learning assistant, you know, your output hour is going to go up, you know, substantially. What that means for professional services firms is I have to hire fewer people because the people that I have can produce more. And so my labor costs are going to stay the same, but my revenue is going to go up. So my margin profile is going to expand. This, again, is another reason why we’re in the golden era of professional services.

Is staff utilization still an important metric?

It is a very important metric for sure.

So what’s the elite level of staff utilization that you’re seeing in your members?

It depends on the role. You know, I would say that, you know, a junior employee, for lack of a better term, is probably 80 to 90 percent. I would say a mid-level person is probably 70 to 80. And I would say a senior person is probably 60 to 70. And the difference is there. And the reason why utilization goes down as you move up the pyramid is two things. Number one, is as you move up the pyramid, you probably take on some supervisory work, which is traditionally non-billable, like you might be a manager of others. And then when you get to the very top of the pyramid, you’re doing a lot of non-billable business development activity where you’re bringing in clients and that reduces utilization as well. But those are the numbers right now.

Okay, that’s awesome. Well, Greg, super interesting episodes, super interesting concepts. I love this crystal clarity you’re bringing and the numbers, data to back it up, that’s fascinating. So if our listeners would like to learn more, maybe joining a mastermind or connecting with you, learning more about what you do, where should they go and how can they connect?

I’ll point you to two areas. First is the website, which is collective54.com and that’s the number 54. And you can apply for membership on there and someone from my staff will get in contact with you. If you’re not ready for that and you just want to learn more, you can read my book. It’s called, The Boutique: How to Start, Scale, and Sell a Professional Services Run. It lays out the methodology in much more detail than we had the ability to discuss today, given the short time period we had. And you can find that on Amazon.

Fantastic. Well, Greg, thank you for sharing your knowledge and your nuggets about professional service firms. Thanks for coming. And those of you who are interested about the show, the Management Blueprint, you can visit our LinkedIn page, Steve Preda Business Growth, and you can watch short video snippets as well as on our YouTube channel. You can watch these and you can get through our episodes and then you can dive deeply in those that you’re most interested in and listen to the long form as well. and listen to the long form as well. So thanks for coming, Greg, and thanks for listening.

 

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