Turning Skills into Money

As I began marketing Responsive Design, I ran into an unexpected stone wall. I’ll take a minute here to think about it.

Say you are a services company, billing other people for your employees’ time. You are looking at investing in training. How will that investment ever pay off?

The range of effectiveness of developers and teams is much broader than the range of billing rates. While effectiveness can easily vary by 10x, a team charging a 50% premium has a tough sell. In addition, the range of salaries is also wider than the range of billing rates.

Here’s scenario 1: the senior team (the numbers are roughly in range but may vary in your situation).

Revenue: 5 people @ $2000/day = $10K/day
Cost: 5 people @ $1000/day = $5K/day
Net: $5K/day (minus a whole bunch of other stuff)

Now you invest $50K in improving the skills of the whole team. Your billing rate of $2K/day is already at the high end (let’s assume), so there’s no way to increase your profit. If the team learned something valuable, then they’d be able to do the same job with 4 people next time, earning less money, not more. From a narrow-minded perspective, the $50K just got put on a bonfire.

Let’s say you want to increase your revenue and profit. It’s hard to find senior people but it’s easy to find junior people. Here’s scenario 2: senior-led junior team.

Better revenue: 2 people @ $2K/day + 10 people @ $1200/day = $16K/day
Slightly worse cost: 2 people @ $1K/day + 10 people @ $500/day = $7K/day
Much better net: $9K/day net income (again, minus a bunch of stuff)

For the services company, this is a win–more revenue, more profit. And there’s no need for training. Some of the juniors will go off and learn on their own, and they’ll be next year’s seniors.

Analysis

The best interests of the client are served by having a tight team of expert developers. The best interests of the developers is to learn as much as possible as fast as possible. It’s only the vendor that is served by having (in the limit) hordes of junior programmers with just enough adult supervision to prevent disaster. Most of the services companies I’ve worked with have taken a long enough view that they don’t push this model to the extreme, but two companies I talked to last week were aware of the tension between providing the best service and billing for the most brains.

Am I the last person in computing to board this particular cluetrain? It sure feels like it. In any case, it matters.

Implications

I got started on this line of thought because I tried to market Responsive Design to services companies that publicly prided themselves on their technical skills. I got zero nibbles and that didn’t make sense. If skills can’t turn into revenue, though, their lack of interest makes sense. (It could be that Responsive Design has no commercial impact at all, but that doesn’t seem like a useful or likely assumption at this point. It’s worth validating, though.)

I always wondered about the seemingly cavalier attitude of services companies towards turnover. If I assume the model above holds, then turnover makes perfect sense. The services company doesn’t want a senior-heavy staff–turnover is necessary to keep the margins up. Just enough senior people need to remain to provide the leadership necessary to keep projects from failing. More than that is a burden.

Product companies, on the other hand, have compelling commercial reasons to learn Responsive Design early. The ability to create and then accelerate a steady flow of features can be turned into money by a product company. Being able to change the direction of the flow of features allows a product company to rapidly address new markets. Being able to operate more efficiently can either be used to increase margins or to fund greater innovation at a given margin.

Customers of services companies can also use the model above to get better service. Customers would get better results paying the price for a mostly-senior team that would allow the provider to maintain their margins. The higher price per person per hour would likely be made up for by requiring fewer people, finishing the project sooner, and reducing the risk of problems. However, the provider is likely to need higher prices as an incentive to put together the team that is in the customer’s best interest.

Programmers interested in Responsive Design and working in a services company will likely have to invest in their own learning. Currently no paid training is available, so at least it won’t be cash out of pocket. The price of learning is time invested in reading/watching the available material, time invested in experimenting, and time invested in becoming part of the community of responsive designers.

Finally, in marketing Responsive Design I would be best off inviting individuals into the budding community, then focusing my efforts on product companies. Good to know.

21 Comments

Rafael AugustoSeptember 18th, 2009 at 11:43 am

As an owner of a small Brazilian services company trying to become a product company, I know exactly what you are talking about. We want to have better technical skills, so we had to change our path.

Maurice le RutteSeptember 18th, 2009 at 11:49 am

One of the problems for employees at a service company is that when they are working at a client their employer is not very keen on people learning stuff during working days. Employees are, logically, not very keen on having to go to evening schools.

When the market turns down the employer has the time to educate employees, but no money.

Dave ThomasSeptember 18th, 2009 at 11:52 am

Maybe the problem is that you’re marketing RD as a way to make developers more effective. But, as you’ve shown, that really isn’t compelling to services companies.

For service companies, in reality, the atraction is that RD is a way to make those companies more effective. The return isn’t on individual projects, but on longer term things such as lower maintenance costs and higher customer retention. Both retention and warranty-style maintenance affect the bottom line.

So perhaps you need to tell two stories: one to developers, and a second to their employers.

Dave

Niklas BjørnerstedtSeptember 18th, 2009 at 12:13 pm

Yes, this is unfortunately true. As a customer of services companies my focus has over the years turned more and more towards the quality of the team as opposed to domain knowledge or price. A good team can learn a new domain much faster than a bad one can learn good practices.

JBSeptember 18th, 2009 at 12:13 pm

A thought: What would happen if you pitched to services companies that they could out bid their competition, i.e. offer lower rates for the same job? Perhaps the real reason for no nibbles is that services works on billable hours, so you have to provide some justification for how they will end up making more money *real soon now* or its no show. You need to sell in terms of the ability to close more business than competitors, or rather the ability to maintain a higher rate of billable hours.

Derick BaileySeptember 18th, 2009 at 12:18 pm

In the service company, wouldn’t a reduction in # of people needed for a project allow them to bring in other customers? you may not be able to get more revenue from an individual customer, but you are more likely to keep customers because you are cheaper, and bring in new customers because you have capacity. more customers = more stable revenue. with only one customer, when they leave, all revenue leaves. with 5 customers, when 1 leaves, only 20% of revenue leaves (assuming equal revenue from all)

Bill CaputoSeptember 18th, 2009 at 12:35 pm

If you haven’t read it already, you might like: Managing the Professional Service Firm by David Maister. He comes to the same conclusion and shows economics behind the forces you describe (its why such firms always either end up with an “up and out” model or something less equitable): http://bit.ly/y6UKM

SteveSeptember 18th, 2009 at 1:28 pm

> Am I the last person in computing to board this particular cluetrain?

Not at all, that is why I don’t work at a large services company anymore. I realized that investing in employees was misaligned with the business goals at a monthly/quarterly level — which is the timescale the business is driven from. There is some incentive in the long term to maintain public image and employee satisfaction and many good people who help mitigate these disincentives in the short term, but fundamentally the business needs are at odds with investing in employee long term skills. Same goes for time off. Training and holidays hit the bottom line directly and immediately while skilled and energized employees have an effect on the business over the 2-3 year timeframe.

Jason YipSeptember 18th, 2009 at 1:46 pm

You may want to investigate value-based pricing. As long as T&M holds, the system will tend to produce the result you describe.

TzeSeptember 18th, 2009 at 10:19 pm

As an ex-employee of a Professional Services, firm, I’d have to agree with you – provided that the customer is charged on time and material. While I was there, our biggest customer has changed their cost model and forced us to charge on a fixed price model – which would lead to more interest in training to increase overall efficiency. What may take 5 days, now take 4 – leading to a reduction of 20% input costs.

What you’ve mentioned on the product firm side makes sense. Training leads to higher individual/team performance, thus increasing efficiency. Training is also able to accelerate learning economies – thus enabling faster growth at lower costs.

Abel MuiñoSeptember 19th, 2009 at 2:50 am

My impression is that using cheaper workers (and longer projects) to get more revenue is rooted on the fact that the customer can not really know for sure if the project is taking more time than needed, or if the services provider is using the project to teach the junior staff.

The first step to turn Skills into Money is to break the “market for lemons” and allow the customer to know what she is paying for.

It can be clearly expressed with shorter development times with a higher by-the-hour charge, which would result in overall savings compared to companies employing less skilled team members. The risk here would be having enough customers to fill all the slots (since projects are shorter, more customers are required).

msuarzSeptember 19th, 2009 at 9:48 am

+1 @Derick … seems logical that needing less ppl is more profitable for the service & customer company

KentBeckSeptember 19th, 2009 at 10:03 am

For the customer that certainly makes sense–the same output with less cost. Can you build a numerical model to back up the increase in profitability for the service provider?

KentBeckSeptember 19th, 2009 at 10:07 am

Derick,

Let me make sure I understand your point. If I can serve my clients with 5 programmers instead of 10, that should let me serve twice as many customers. Is that it? A customer in the hand is worth two in the market, though. With my business hat on, there’s much less risk in selling more to an existing customer compared to trying to find a new customer. So, as far as I can see, it’s a bad assumption that an increase in productivity will automatically turn into more customers.

I agree with your point about having a portfolio of customers. However, that doesn’t negate the numbers suggesting that the “senior leadership” team is more profitable.

Shih-gian LeeSeptember 19th, 2009 at 4:17 pm

Dave Thomas made a good point.

Maybe you should not target services companies. Instead, target service companies’ employers. If you can replicate the kind of efficiency, I believe companies with IT department/organizations would be interested to know the secret to producing the same result with fewer resources.

Trond WingårdSeptember 20th, 2009 at 11:59 pm

Kent,

Interesting read, and the math makes sense. However, there are a few more factors that should be included, I think. Time is one – doing the math over several projects instead of just one project, as both Dave Thomas and Derick Bailey commented upon. Another important one is competitiveness.

For a service company, there may be a competition to win the project. Let’s say one service company competes with the senior team (from your article), and the other service company competes with the senior-led junior team. Assuming the two companies estimate they’ll finish the project in the same amount of time, the company with the junior team will quote a price that’s 60 % higher than the company with the senior team. It’s obvious which bid the customer will prefer.

So while, in isolation, it makes financial sense to have a bunch of juniors and a few seniors, in the market, over time, it may mean that you get less business.

KentBeckSeptember 21st, 2009 at 5:38 am

Trond,

I agree that long-term thinking ought to be part of the equation. In talking to service providers, though, I find that it isn’t, not to the degree I would naively expect it would. I wrote the post as a way of trying to empathize with that position.

“Cheaper is better” is a small factor in the sales process. Engaging a service provider is not like buying stock, where price is all that matters. Relationships, ego, history, and scale all play a role as well. I haven’t observed it directly, but from the externally visible behavior it seems like some buyers are swayed by the argument that they have a big problem needing big resources like the 12 person team, not one of those little problems that only require 5 people (ignoring the quality of the team).

Mark MillerSeptember 22nd, 2009 at 4:55 pm

Tze:

“our biggest customer has changed their cost model and forced us to charge on a fixed price model – which would lead to more interest in training to increase overall efficiency. What may take 5 days, now take 4 – leading to a reduction of 20% input costs.”

This model has other costs. Almost every service company I worked at used a fixed-bid model (I am also an ex-service Co. employee). I agree that it increases efficiency, but it does not lead to well designed products, and it runs the risk of costing the service Co. money, rather than making a profit. Customers (of course) would ask for changes during a project, after the bid had already been signed off. Some of them were pretty significant and couldn’t wait for another development cycle. The only thing was they didn’t want to give us more time or more money to incorporate their changes! So inevitably we would deploy projects late and over budget (for us), leading to a lower profit margin, or even a deficit that we had to eat. This was even with extra hours put in to try to meet the goals.

The quality of the talent that we had was decent (if I do say so myself). We had some things to learn, and there was some allowance for that. The quality of our designs were often passable, not great. There wasn’t time for that. One service Co. I worked at more than 10 years ago allowed time for its developers to train themselves on new technologies, and to work on non-revenue-generating internal projects that would improve our service offerings. That was usually good and I enjoyed working on those projects. Even so we still had problems meeting deadlines and our budgetary expectations given the fixed bid model our customers used. I remember advocating for a T&M model at the time, because of the overruns. The discussion about T&M above has been interesting. There were some things about it I did not know.

TzeSeptember 24th, 2009 at 3:05 am

Mark Miller -

Regarding your comment on fix-bid’s leading to poor quality, I had a different experience at my firm. Yes, I agree that it does sometimes lead to poor quality as developers rush to meet datelines, but that’s where training and experience comes in to play. I myself have seemingly made short sighted decisions to get a piece of functionality out the door, incurring technical debt that would come back 6 months on and bite us and it up to the senior technical staff to work with (or fight against, depending on how you see it) management on when and where to take hits. It also required a change in culture where “hey, it works” is just not good enough.

But this is where the key account manager earns his salary. Ours would not only aid in the initial bid, but would manage the customer’s expectations and the project goes on. If there is a change, its a CR – more money. After the first cycle, our customers started to realized that they themselves had to ‘know’ what they wanted, or at least ask for our recommendations. That aided the process significantly. We’ve also reduced our project cycles to 3-6 weeks from 2-3 months in order to deliver quicker with less divergence from what the customer wanted.

Its too easy for technical people to just focus on the technical aspects of a projects. Working with our key account manager made me realize that that’s where battles are won or lost. Having the customer trust us and willing to understand our position, esp during changes or delays, enables us and them to work together to ultimately deliver solutions that results in a win-win for everybody.

It ain’t easy, but its possible.

Sean MurphyOctober 28th, 2009 at 7:33 pm

You are making several assumptions you may want to revisit, in particular I would reconsider Jason Yip’s suggestion to charge for value. Can you come in and help them create a system that will let your client produce a significantly better result, and charge for the result not the time. Also, does your training allow your customers to effectively differentiate themselves in the market: can they take on jobs that others can’t (or won’t be trusted with). Or can your training allow junior personnel to perform at senior or expert levels?

jason yipMarch 28th, 2010 at 1:02 pm

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