What is a Healthy Profit Margin for a Digital Agency?
In this episode, we’ll cover:
- What your digital agency profit margin should be.
- How to improve agency profit margins.
- 7 tips to healthy agency financials.
- Building cash reserves and improving cash flow.
Since he brought so much value the first time I interviewed him, I invited Jason Blumer of Blumer CPAs back a second time. Last time, Jason talked about saving on taxes and avoiding an audit. Today, he chats with me about what numbers you should be looking at to determine your agency’s financial health.
Financials can get confusing. Jason agrees there are so many different statements and ways of reporting – it’s all very overwhelming. That’s why his agency looks at the big picture and watches for trends, rather than focusing on the details.
Tip #1: Understand Healthy Profit Margins
Blumer CPA’s specialize in agency accounting… and based on their experience Jason Blumer says a 10% profit margin is good, and 15% is outstanding. If you aren’t quite there yet, make this your top priority. Solid profit margin is key to financial health. There are a variety of ways to calculate profit however, the 10-15% are based on a formula of:
Gross Revenue – Expenses – Owner Salary = Net Profit*
Net Profit / Gross Revenue = Profit
*Note: Owner Distributions and Profit Taxes are taken from the Net Profit)
Tip #2: Make Profit a Priority
Most business owners consider their profit to be simply the amount “leftover” each month after all other expense are paid. If that’s what you’re doing, you’re going about it all wrong! Jason mentions the book Profit First which explains an accounting method for making sure your business is highly and permanently profitable by setting aside profit before paying other expenses.
Tip #3: Regular Review of Financials
When you’re going over financials, the Income Statement is the #1 document you need to be reviewing regularly. Jason says this is the statement that’s going to give an accurate account of your agency’s financial health. It essentially takes your more detailed line items and lumps them together into larger categories to report gross revenue, expenses and profit.
Tip #4: Build Cash Reserves
There is no magic number for how much an agency should have in reserve – it all depends on the risk comfort of the owner. However, a good rule of thumb is to keep 3 months of expenses in a savings account. This saves potential headaches and fears, and can also help float your cash flow if needed.
Tip #5: Improve Cash Flow
As you grow, you get bigger clients. The bigger the client, the more hoops there are to jump through to get paid. This drastically slows things down. So one trick Jason talks about it to change your billing cycle from every 30 days to every 15 days. The sooner you invoice, the quicker you’ll get paid.
I also have a blog post about additional ways to improve cash flow, including changing payment terms right in your proposal.
Tip #6: Don’t Let Growth Psych You Out
In a growth phase cash can be deceiving. It feels like you’re raking in the dough but a lot of people don’t look at the flip side to see what each client is costing them. Sometimes they’re only breaking even. Jason cautions all agency owners to take a regular look at financials to see if you’re as profitable as you think.
And last but not least, meet with your CPA regularly. Agencies who are growing rapidly should meet with their CPA on a monthly basis or even more frequent.
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