For years the prevailing wisdom has been for IT solution providers to focus less on moving products, and more toward a business model built primarily on services delivery. The conventional thinking was that product sales involve too much work for too little margin, while services allow for more predictable and stable recurring revenue.
While this is true, there are downsides to a strict focus on services. Three important ones come to mind:
- Limits on scalability.
Providing services is labor-intensive. A given engineer, tech or help desk operator has only so many hours in a day. That’s why Autotask has become so popular among IT service companies. Our software streamlines service delivery workflow, and automates as many tasks as possible to maximize resource productivity. But at the end of the day, once you are getting the most productivity out of each service resource, the only real way to significantly grow the business is to add and manage more staff.
- Less control over the client product-purchase decisions.
By definition, IT services are attached, or related, to IT products. And virtually all of these products have a limited shelf-life before they become obsolete, non-functional, or used up. From servers to routers, from laptops to printers, and the supplies, accessories and consumables that go along with them – your customers are constantly in need of, and buying , more IT products. If you focus too heavily on the service side, you run the risk of reducing your overall impact on – and input into – the other IT purchase decisions your customer make every month—and that can impact your ability to provide the related services.
- Loss of share of your clients’ IT spending.
Even when you’re responsible for making IT product recommendations to your customers, if they’re not actually buying the products from you, that revenue is going elsewhere AND it creates an opportunity for your competitors – from other local VARs to online IT megastores to your local office products retailer – to bundle in services along with the product sale. This includes warranty contracts, maintenance agreements, and even repair or service work.
The Profit Implications of Different Business Models
But perhaps the biggest reason to revisit the product sale side of your business is the overall impact that a balanced Product/Service Hybrid business model has on your company profits. According to current industry data from Everything Channel’s IPED Channel Research, the Hybrid business model is clearly the most profitable compared to the Product-Focused, and Service-Focused models. Let’s compare the three:
A typical mid-sized IT business with a product-centric focus captures gross revenue of $15-50MM, but because margins are so low, they typically net in the range of $500,000 profit – a net income of 1-4%. This is your basic, high-volume, low-margin business.
The takeaway: Businesses with the highest mix of product-based revenue tend to be the largest, but have the lowest margin percentages
The average service-centric MSP will generate significantly lower top-end than a product-focused company, in the range of $1-5MM, but, because their margins are so high (typically 30-50%), they generate higher profit ($600,000), and a higher net income of 15-25%.
The takeaway: Businesses with the highest mix of service-based revenue tend to have the highest margin percentages, but, because they are difficult to scale, tend be the smallest.
Hybrid Product-Services Model
IT solution providers who balance their revenue by meeting their clients’ services and product needs create $10-20MM revenue with gross margins of 20-30%, on average. But, because they leverage the best of both models from within and across the same client base, their bottom-line profit is considerably higher at $2.25MM.
The takeaway: Businesses with a nearly even mix of product-based and service-based revenue tend to have high margins (though not the highest) and be larger (though not the largest), and yield the highest overall level of total financial performance.
The following charts illustrate these findings:
Overcoming the Biggest Hurdle to Profitable Product Sales
This is all great in theory, but here’s the big challenge: Without the right tools to automate the quoting and procurement process, selling products is very time-consuming, often sapping sales and service time and resources that could be applied more profitably elsewhere.
That’s why we’ve added VARStreet to our product line. This affordable hosted technology is designed specifically to drive the cost out of the IT product sales process, and give you the tools you need to build a healthy product-service hybrid IT business.
By automating both the product sales component of your business, and the services delivery components, you’ll maximize the total financial performance of your business, and get the best total return at the lowest overall cost per customer. Not just higher margins or higher revenue … but the best possible combination of both.
Bob Godgart is the CEO of Autotask Corp., developers of Autotask hosted professional services automation software, the VARStreet family of advanced quoting and e-commerce tools and Taskfire, a hosted service desk and ticket management system sold by IT solution providers for businesses of all sizes with internal IT resources. Monthly guest blogs such as this one are part of MSPmentor’s annual platinum sponsor program. Read all of Bob’s guest blog entries here.