Margin vs profit
Money is the lifeblood of any successful business.
Money delivers options.
Options to refuse a project because it doesn’t fit your timeline/values/expectations.
Options to take leave/pay bonuses/upgrade equipment.
Apart from productivity increases there are two ways to accrue money: add a margin or include a profit.
We would argue they are different beasts and you need both to build a sustainable business.
We’ve covered how to calculate your true hourly rate in previous articles; we’ve documented it in The Business of Design and deep dived into detail in an ecourse so we won’t cover it here again … but as a reminder the rate includes:
- overheads – costs incurred even if the studio is devoid of work, such as accommodation or utility costs
- the actual days worked in a year – minus public holidays and leave
- productivity – it’s impossible for most of us to work 8 hours a day, 5 days per week. There’s coffee and toilet breaks, there’s water cooler gossip and then there’s social media flicking.
The final thing your hourly rate should include is:
- a margin. A margin to build a sustainable business.
A note on vocabulary: in our world not including a margin in your calculations will result in an hourly cost. Including a margin (of risk) results in a true hourly rate.
The business-sustainability margin is like insurance. Including a margin is to cover potential risks. It covers any unprofitable projects, or projects that run over-time or over-scope. It covers any projects that, for whatever reason, are not billed back to the client. And it covers gaps in the day/week/year when the studio is under-utilised – when there just isn’t enough work.
Typically agencies add at least a 20% margin to their hourly costs to get their hourly rate.
Estimates are built by multiplying your hourly rate x the number of hours needed to deliver the project.
It’s the cost of the project, but it is not a figure given to the client.
Profit is the difference between the cost of a job and the client estimate.
Profit is a separate figure calculated as a percentage of the cost.
The amount of profit is set in an annual budget and differs from studio to studio.
When a job is won profit is creamed from the top and put aside.
The profit figure is not part of general revenue and should not be included in any hourly rate calculation.
Studio X has an hourly rate of $200 and has budgeted for a 20% annual profit.
A project is estimated to take 20 hours, making the cost $4,000.
The budgeted profit (20%) is $800
So the estimate presented to the client is $4,800
Once the budget of $4,800 is approved, the account service manager separates the $800 profit so it doesn’t appear in the job management system as ‘general revenue’.
If that wasn’t done, the total figure may be divided by $200 (the studio hourly rate), and 24 hours would appear as ‘available’ for the task rather than 20.
Including profit in an estimate is the difference between a successful creative business and one just existing to pay the wages.
Profitable businesses have options.
Profit, like margin, differs from studio to studio. In our experience, 20% is a benchmark, with some of the studio’s in our network reaching 50%.
Four key takeaways
- A successful creative studio needs to include a business-sustainability margin in their hourly rate and a profit on the bottom line.
- This is why you don’t want to share your hourly rate with a client … you never want a client dividing a total figure by the number of hours. That’s not how you calculated your price and it shouldn’t be how they do it either.
- Understanding how to calculate a sustainable hourly rate, and a profit margin, delivers knowledge to make better business decisions. For example, if a client asks Studio X for a 15% discount, they understand it would mean giving away most of the profit.
- Many unprofitable firms think if they recoup their hourly rate on each project they will be profitable. This is short-term thinking.
What is not included in this scenario is a value-add component, that’s a whole different discussion.
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These articles also talk about hourly rates and profitability:
- When is a good time to increase prices
- Why you shouldn’t share your hourly rate
- Designers adding value
- $150 Job pricing ecourse
After 30+ years running a graphic design firm, I pivoted from client-focused projects to consult to the design industry. Now with the Design Business Council I use my experience, and research, as a design mentor and coach. I help designers build robust, sustainable businesses, and help businesses integrate, and profit from, design.
The core of the DBC is the building a design community – over 85% of designers work in businesses with less than 5 employees, many less than 3. That means designers don’t have the same support network of other professionals. The DBC’s solution is supplement paid gigs with research, mentoring breakfast meet-ups, informative UNseminars and practical workshops in Melbourne, Perth and Sydney.