Episode Transcript
[00:00:00] Speaker A: Welcome to the Independence by Design podcast, where we discuss what it means to be a business owner and ways to get unstuck from the day to day so we can design a business that gives us a life of independence.
All right, Kim, so here we are. We're kicking off a new module, and it is module six, after your predictable revenue.
And we have covered gross margins and gross profit and delivery in the past as we were doing the profit war room. And I think that was a very specific angle that we were taking about it, which is kind of like how to manage and navigate the future. But this next few episodes are going to be specific to how the module 6 fits into the IBD system.
You want to maybe kind of give us a little launching off point from module five and why we cover, like, what was module five the last few episodes? Episodes are all about predictable revenue engine. Why that's so important that you and I both believe needs to be done prior to understanding the operation, service, delivery, product and the margins.
Sure.
[00:01:10] Speaker B: So the predictable revenue coming first just kind of helps level set a sturdy foundation to do the rest of this work from. Right. So we can say we know what revenue we're going to bring in and when. That's great. Now we need to say the next step is, well, is that going to translate into any wealth?
Because it's. We could say, well, we're pulling in a million, but we're spending 1.5. Right. Or margins are completely off and we're only making 2% margins instead of a 40% margin. Right. So it's. We got to set the revenue first, and then that way we can look at the rest of the business to make sure it's bringing in the wealth that we needed to.
[00:01:47] Speaker A: How about like the. Just to speak on, like the type of revenue too? Because I, I guess where I'm trying to go with this, with this line of questioning is I want people that listening in to understand what should have been done and what should have been thought about prior to jumping straight into, like, what are we selling at? What. What margin? So you, you had talked about our icp, the strategic planning, like all of that stuff. Like, and then how does your CRO role communicate with the COO who oversees margins?
[00:02:18] Speaker B: Sure. So it sounds like maybe just level setting a little bit in case folks haven't watched the previous.
[00:02:22] Speaker A: Yes. Yeah, yeah.
[00:02:23] Speaker B: Episodes.
So three episodes ago, we were talking about things that you were talking about. So the revenue architecture. What is your ideal customer profile? What is your total addressable market? What is your brand identity? What Is your position in the marketplace? What are your competitive advantages? Those are all found in three episodes ago. And then we dived into two episodes ago, which was the user journey and cost of acquisition, where we're looking into what are the critical steps a person takes when mingling with you and your business, and how do they become aware of you and your business before that mingling happens, and how does that evolve into networking with you and then how does that eventually evolve into becoming a customer? And how to measure each of those critical points of interaction so that way you can forecast when somebody will turn into becoming a customer. And what is your average deal close by product, service segment? And then what are the guardrails you want to put into place? How much are you willing to spend to acquire a new customer? I actually just had that conversation with a client last week where I said, okay, we're always so focused on roi, but let's look at it from a different lens and say you as a business owner, how much are you willing to spend out of your profit every year on acquiring new customers? And so that was just a different way of looking at it versus always roi. So that was two episodes ago. And then the most recent one is on the systems, the governance and the forecasting. So actually putting it all together, what systems technology stacks are needed to track the different KPIs that we've been discussing, and how can they then turn that into a reliable forecast from which you can plan?
And so why all of that's important is so that way, when we reach this phase and I go to Mr. Or Ms. COO and say, okay, now let's talk margins, I can say with a high degree of reliability and confidence, this is what I'm seeing as a projection for our revenue by service segment. Now let's look at the margins of each of those service segments and we might end up having a problem where I say our revenue is declining on our most profitable work and our revenue is increasing on our least most profitable work. And that's a conversation the CEO and I as a CRO are going to need to have.
[00:04:45] Speaker A: And having that constant two directional, that's the right way of putting it, that, that bidirectional. Anyways, the conversation between the CRO, the CEO and the CFO in relationship to the owner, operator, CEO, because having that collaborative nature of like, okay, are we selling the right stuff?
So that whole process that you just talked about in the predictable revenue engine, then by the time we get here to transferable margin. So my definition of transferable margins as it relates to this module is we have built out a service or product that is repeatable without the owner operator at the margins that we need in order to continue to grow, to hit our owners targets of the valuation, the distributions that we need. And so none of this stuff is done in isolation, which is why when we talk about budgeting, we're going to get in a lot into that, into Q4 after our summit.
All of that is done in a collaborative nature. So when we had these conversations, it's like, okay, there's not just one silo having this guy, you know, having this whole plan without the other person. When I think about the importance of what you just said, when I'm, I'm just literally picturing an income statement going, okay, well we have like, let's say it's four or five lines of revenue.
Those might have different, those different products and services have so many different attributes to them potentially.
Ideally there's a one customer journey or user journey and one client acquisition cost that says all of these, this makeup of these four to five revenue lines, all of those resources are getting directed towards like that's our ideal client profile or maybe a couple max. But like that's how we get leverage out of our resources. Saying we're going to use money to acquire these revenue lines.
And they might have different margins, which is why we need to break out per product and service line the true cost of each of those product or service lines in the revenue so we can figure out which ones do we want to go after and why. And how do those different ones that we want to go after and why impact that user journey?
The easiest way I can describe it from my own passes, start off with copier. So it was equipment and managed print service or equipment and print services, two revenue lines and it was document management, then manage IT services. But it was one business, right? So like there was different. And you had talked about this on our last podcast where you had to have different opportunity tiles in the CRM.
But those opportunities should tie to a revenue line. And we would want to know how much margin do we want to acquire for each one of those revenue lines.
[00:07:34] Speaker B: Yeah, well, and also what the market demands too. It comes into there. So it's not even just splitting it out and saying what do we want to grow?
But it might not even be the good news that we're looking to hear. After we split it all out and we see what our margins are by product or service line, we may see that the market is demanding this other lower margin service line and not our bigger profitability. And that's a whole nother discussion that needs to be had. Well then do we need to go find a new marketplace? How do we like increase the margins on the, on the product or service that is in demand right now and that the market is desiring more so than our other higher profit items? Is it a matter of let's focus some of our internal efforts into making it more efficient to produce that particular product and let's take some of those resources away from the higher profit margin ones because it's not selling as much like it just allows for those higher, more strategic conversations across the C suite team.
[00:08:33] Speaker A: And the way I think that that is done is through having you know what this whole milestone is about having clear target margins per product or service line.
So what I want to do and steering the right direction here is unpack what that means and what does that take. Because the decisions that are made from having clear target margins per product or service line is what should we do more of and when talking to the CRO to say, okay, if there's seasonality to those product or service lines, what are we going to do when, how are we going to be spending our marketing dollars to acquire those and when, how does that line up with the forecast and making sure that the product or service.
So the COO that you and I, we kind of mentioned it, but I'll just level set it. The COO I believe should be responsible for gross profit and gross margin.
Gross profit being the dollar amounts, gross margin being the percentages.
And that COO is responsible generally production or service, whatever is going to be delivering that product or service at the target margin. And we need to know what that target margin is in order to actually measure it. And that then has to be making, we have to make sure that we actually account for the costs and the appropriate costs that it takes to deliver that product or service. So it needs to be the, I mean we covered this and stop me if I if you think I'm being too repetitive, but the revenue recognition has to be done correctly. We cover that in the module 4 for sustainable financials. But we have to make sure that we, we're recognizing revenue every single month. If there's work in progress or if there's milestone or progress billing or if there's different, you know, if we have to spread that revenue out and then match the cost of goods for each of those revenue lines so we can actually get the margins, otherwise we have no idea what they are because we want to See, well, because you and I have multiple clients where they have multiple revenue service lines and one of them might be like 32%, one of them might be 42%.
And I think everybody would say, well, we want to sell more of the 42. But then it's like, well, what does that mean for how much we need to staff up, how much inventory we need to buy? Does the market want more of the 42% service or product or less?
And like, so there's all of those decisions that I think people want to have answers to inside of, hey, do more of the one that's more profitable. But there's another client that we have where the one that they're.
The highest margin is something that we have labor constraints on and there's training issues and so say, well, if we can sell more product at the 30, lower 30%, we can still make more gross profit dollars.
And that's just a trade off that we're having to have these conversations with. And I think everybody wants to see that decision tree, but they're not able to separate through all the data in order to actually have those conversations.
[00:11:42] Speaker B: Yeah. And it's funny because you asked earlier on in this conversation, you know, what does it take to get there and how do you know what to set it at? So backtracking to that a little bit, how do you know what your goal should be for your margins? I mean, there's. I might be oversimplifying this, Ryan, but in my mind it's. There's industry norms for what a good margin looks like. So like if you're a manufacturing and you're in this particular industry or these particular verticals, then there's normal margins that are averages across all the businesses in that particular space. And you'll find that for all of it, like professional services has an average of what, like consultancies, Financial management firms, like they all have what an average margin for what good looks like. You just have to, I mean it's really easy to find that out nowadays with AI and everything else. And that at least gets you started with what and then to, to how do you get there? Again, over oversimplifying it because I don't live in this space, so it's easy for me to say would just be have good financials.
Like, you have to have really good financial reporting. So that way you can easily get to that data.
[00:12:54] Speaker A: But I think it is, it's hard to get the clean information, which is why you and I spend so much time talking about that. But once you get it? The decision tree is not actually that complicated. To your point. Like, one of the things that I find most fascinating about my job is I have visibility into all of these different companies because like, at the end of the day. So I'm going to zoom way out to, to relate to that point you're making.
If we're thinking about business from the lens of an investor.
And the question is if I. So if I've got money and I've got money parked in the equity of a company, I need a return.
And the question is what level of risk and what level of, and headaches am I willing to go through for that return?
And what I find fascinating about my job is I get to see across all of these companies and go, how much work does that person have to go through to generate that?
It's the same question that all of our clients have, which is, is this worth it or not? It's like, I don't know, like that's a lot of work for what? Right, because you could have an, a huge dollar amount for gross profit but very skinny margins and go, holy shit, that's a lot risk and a lot of work for that kind of margin percentage, even though they're high dollar amounts. Where you could go, you know, whether it's manufacturing or distribution compared to software as a service, which you. And I don't have a lot of SaaS, entrepreneurs and owners in our, in our space because it's generally up and down the street, main street companies.
But I know that SaaS businesses in the past, who knows about AI, where it's going, but the margins were so huge that they could put, that's why when we were doing your last module, you could put a disproportionate amount of that money back into client acquisition cost.
And so it's this whole return on effort, which is what I think everybody wants the answer to. And I think what is interesting, if we think about business from the lens of an investor, it is okay to look at a professional services company versus a distribution versus a manufacturing company versus a retail company. Go like, how much you got to go through for those margins?
And that's why there are different asset classes because private equity looks at them going like we're going to go after manufacturing the Midwest versus software in this space. Because they're going, what kind of risk do I need to take for the amount of dollars that are in my equity? And what kind of effort does it take? And we can't answer that unless we have all that information.
[00:15:35] Speaker B: No, it's true. Which then comes back to, I think, having the really good reporting, which I, I don't see that consistent across any of the companies that I've worked with. Is that like even being able. I was on a call recently where I said, all right, well do you have a. Your margins by customer?
I was like, well, no, I just know them. And it was okay. Well, and that's fine. I mean she had a really good handle on what they were and stuff. But it really neat exercise because when they started writing it down, it was a, hey, this was a really good exercise because you're right, I haven't talked to these people about this and trying to re ship this and reshape this in a profitable way for the business. It's just like out of sight, out of mind. So even if it's something that you feel like you have a good handle on, even just going through the exercise and actually creating the report of what it looks like, you might find some aha moments in there. And it also is just a good reminder for the, the account management team to say, hey, no, like when next contract comes around, I need to have this conversation. And I actually want to reach out to them in advance of that and start having these conversations.
[00:16:40] Speaker A: Let's use that to pull on the, the profit war room that we did like a few months ago. Cause I think there's a lot of good concepts that we, we can pull on because it's all tied to this milestone, which is. Yeah, I mean when someone says I have the handle on them, fine. But what I think you and I had talked about in that a little mini series was given that you and I both believe we're going to be in, in for some rocky times with volatility, with costs.
How could. So what we need to do is say, okay, well if there's four product and service line, let's say it's 35%, 39%, 32%, 42%. Okay, well what I would want to know is how do those different product and service design tie into the user journey?
Because someone say, well, just stop doing the lower percent one. He's like, well I can't. Because if we stop doing that, then the customer who's also buying the 42% margin, product line or service line needs the other one.
You know what I mean? So that's where your user journey and all the stuff that you do and promote is so important. Because we can't just pull things out without the holistic picture. Because I think a lot of our Customers have that same issue. Like, well, I need to do this for brand reputation for, you know, for customers because it's just part of the whole thing. But we still want them broken out.
But then what we can do is we go to the industry associations, like you said, finding the target to hold ourselves according to the benchmark.
Then we look at the rates of change on our costs because like we slowly have that compression and I am working, I've got a distributor that we work with.
Oh my gosh, they're getting squeezed from both ends from the manufacturers who are like pushing on the cost and then like the customer can't absorb it. So it's just like, I mean it's just, it's very brutal and like, so distributors are going to have they, we have to look at this stuff because you're carrying the float of the inventory and all the payroll and we, while you're getting squeezed on both ends and seeing that rate of change on the like on payroll, on your inventory costs are so important because we want to be able to determine how to pass on those price increases to your point before it's too late. So maybe talk through like because you, you're so from the reward of the rates to change, like maybe again double click on that, explain what that is and how you would use that type of data and then how you on the revenue side would be talking with the COO how to pass on price increases and how that that conversation with your team would be going.
[00:19:16] Speaker B: Sure. So the rates of change, that's just looking at a year over year percent change, but using a monthly moving, rolling monthly moving total.
So if you're looking at January, February, March of this year, you compare it to the same time period a year prior. And then when April numbers come out, you drop January and you add in April. So that, that way it's just a rolling around the year consecutive three months compared to the same consecutive three months a year ago. It's just the percent difference between the two. And then it's also looking at the same but 12 months of total data. And that's just rolling the same way that I just described with the three months. What that does is it allows you to see where like the trends of it and if there's also seasonality in the trends, but also just the overall health of that particular data set that you're analyzing. So when we're speaking directly about cost, it's allowing you to see the significance or lack thereof of how your costs have been changing because you can say, well, yeah, we used to spend $700 a month on health insurance and net per person, and now we're spending eleven hundred dollars a month on healthcare per person. And then a year from now, I can be like, oh, yeah, it only went up to like 1150. And then a year later you're like, yeah, it only went up to like 2100 this time. And it's like boiling a frog.
You're slowly just incurring more and more of these cost increases. And they don't. Some of them, not always, but some of them don't look significant.
But you can. When tracking your cost and the rates of change, you actually can see if, like, the trend of it and what's the.
[00:20:56] Speaker A: Is it accelerating? Like, is it getting worse or is it not getting worse? Right.
[00:21:01] Speaker B: Y. Exactly. Yeah, exact. And then also you can compare that to your pricing. Like, if you haven't increased or changed your pricing at all during that same period in time, then, yeah, those changes are eating at your margins and you're just taking it because you're not really feeling it all at once.
[00:21:17] Speaker A: So I like what the rates of change and margins being the percentages. I think it.
One of the most important practices I think people can and mindsets people can start adopting is looking at the percentages in relationship to something else.
And so that's what the margin is looking at in relationship to the revenue. And so the profit in relationship to the revenue, not just the dollar amounts. People like, oh, our gross profit went from 2 million to 2.5 to 3 million, which is awesome. But if you start to see your margins eroding, that's what would show the price increases of the health insurance or maybe direct labor is going up because people are requiring more aggressive raises. So you're not just looking at the dollar amount you're looking at in relationship to something which is the margins. And then with the rates of change, it's in relationship to the trend of is this getting better or worse? Should we start paying attention to this and do and we have to have hard conversations now or do we just ignore it? And what's your definition of a trend?
Like, what's the timeline?
[00:22:24] Speaker B: Three months in a row?
[00:22:25] Speaker A: Three months in a row?
[00:22:27] Speaker B: Yeah, it takes three months to start a trend.
[00:22:29] Speaker A: So I think what that does is help people with a mental model of should I be worried or not?
Should I pay attention and have anxiety or not? It's like, okay, not necessarily yet, but I'm starting to think about it. So I didn't have conversations around it. And then that Allows the CRO and the COO to start having conversations around. Do we need to shift what we're selling and what we're putting our ads towards and what we're putting our salespeople's comp towards? Because we start to see something shift. And you and I had a really interesting meeting with one of our clients where the sales were the big problem, Q4, last year, and now it's the people on the delivery. So it completely inverted over the last six months, which was like, had we not been paying attention to all this stuff, we wouldn't had context. And it's just always like one word or the other. But it's like, no, no, we solved this over here. Now what we have an issue of is we don't have enough of the people in the delivery, so can we afford to overpay them to pay people for all their travel? I mean, there's a series of questions that you and I are going through with the client to determine. We don't know what the answer is right now, but we're testing some things out because we have these parameters that we know we have to work within.
[00:23:48] Speaker B: Yep, yep. And it's funny, when you said, should we be worried or not? All that popped into my head is, yes, it's just the level of how much you should be worried in my mind, just because of the way that everything's headed with inflation and the economy and everything else. So that just was what popped in my mind. Right. When you say, you're like, should we be worried or not?
[00:24:08] Speaker A: I'm like, ray Dalio's got my. Like, it's got. It's gotta be one of my favorite quotes, which is, if you're worrying, you don't need to worry. And if you're not worrying, you should worry.
And I think it's. If you're worrying with the data in front of you that we're talking about, you're putting all of it into context. So you're. You're integrating these conversations in your monthly meetings, the quarterly meetings, the budgeting process, and the.
What I like about the target gross margins for the product line or the service line is identifying what are the constraints. Because when I think about. When I think about. And I did this on the podcast, when we. I don't know, it was a couple months ago about the target gross margins after we did the profit war room is we're trying to repeatedly grow the product or service line. And so there's this book called the Goal, the Theory of Constraints. Have you and I talked about that and that's what I think about for, specifically for the product or service line, how do we increase the throughput? So there are, and we're going to get into this in one of the next episodes of the podcast.
[00:25:15] Speaker B: But
[00:25:18] Speaker A: identifying inside of those product or service lines, what are the ways to increase the throughput without increase in the expenses? So we look at the bottleneck and you say, okay, well, I'm just shooting off the top of my head. But with labor, it's labor utilization.
So like per person, how much output are they producing?
Like how many, whether it's billable hours or whether it's product shipped? I mean, there's all these KPIs that people can start diving into. I don't know what they might be for everybody's business, but how can we do more with less or more with the same? And this is where AI automation, lean, Six Sigma, all that stuff is all part of the same thing, which is ident. Identify the bottleneck, open up the throughput, and then we can keep, either maintain those margins in spite of pressure or grow the margins.
And then we, you know, whether. So then on, on payroll there's a bunch. But then also that with product, there's a bunch of different metrics that people might have. Same thing with software, same thing with manufacturing. There's all these different KPIs that people can identify to say in our margins now, in our gross profit, we have to be abundantly clear what's included in there.
Then we can start identifying where the bottleneck is, because if we don't have agreement of what's in there, we can't do the exercise I just talked about.
And then we can have this process of constantly iterating to say, how do we increase the throughput? And it's a very focused conversation instead of just who's complaining about what at any given moment.
[00:26:52] Speaker B: It's funny, when you were going through all of that, I have very vivid images pop back into my head of all the times Joe and I have gone through and documented like swim lanes and did all the lean Six Sigma stuff across. I mean, we were a service business, we weren't a manufacturing business, but it still applied. You can still document and see and saw like so many of like the waste that was going on just because of the process had been bloated over the years and hadn't been reined back in and check to make sure that it was as efficient as it could be. But one of the things that came out of all of that is a question that I started asking very frequently. The production team as well as the sales team, just everybody, everybody in the company. I started asking, but does the customer appreciate that? Right? Because I kept hearing from a lot of people, well, we do that because it gives this for the customer and we do that because it has this benefit for the customer. So I said, but did they see that? Do they know that? Do they value that? And asking that question actually reduced our work by a lot in various areas because we identified no. Like if you do it like a voice of the customer survey or if you start, if you start having your frontline sales reps asking varying questions during their renewal conversations and such, we started to uncover, no, actually some of these things they didn't even realize were in their program or they didn't even realize were in their report or so on and so forth. And so when we stopped doing them, it reduced the hours of work by a lot.
[00:28:19] Speaker A: The I keep going back to the collaboration between the CRO and the co and you and I, I can't remember how long when it was, but we did the podcast series on the comp plans. So the three legged race of like if you, if I was the COO and you were the CRO and we're both commissioned with our variable comp on the main bucket, which is you for revenue, me for ops and margin.
But then we're having this perpetual dialogue back and forth to say, like, how do we sell more at the best margin?
That voice of the customer.
And I just think about how many people are delivering things that they think the customer needs.
But then at the same time, you as a CRO want marketing messaging, you want testimonials, you want all these things. So both of us would benefit from hearing from the customer and then together we then have a conversation like, how does that integrate into the sales marketing plan? How does it integrate into making sure what we're doing? How do we cut the stuff that we don't want? Instead of. I think so many people just end up sitting in these conference rooms debating each other and just assuming all of these things without having actually any idea whether the customer values it or not.
[00:29:35] Speaker B: It all comes back to data. And we all know I'm a data nerd.
I won't guess. I'll be like, well, I don't know, why don't we ask and why don't we find out? Another thing that comes from those conversations between the COO and CRO that we had a lot again every month was looking at the profitability by customer. So that way we could manage those expectations with the account managers to say okay, hey here's your list of five accounts that we don't want you to renew as is, so on and so forth. So we need you to come up with a plan on how you're going to salvage this relationship. I don't care if it takes you the next three years. Right. Like, but something has to change. And so we would put the ownership on the account owner to come up with those plans and come back. And then on top of that it helped us when we did the profit margins by product and or service line. We could see any losers. We always called it lose the loser. So that was an annual thing that we did where we would review all of the different things that we were offering to era. What skews should we cut so that people think of new things to do throughout the year. They're like, well that actually sold to this one customer. Why don't we make it its new product line or something? And then next thing you know you're only sold two of them and yet you have all these man hours going into developing something. Right. So it's just doing an annual audit between the three. The C suite on losing the losers.
[00:30:55] Speaker A: You're my head. One is this is this ridiculous story is tied into not doing strategic planning, not having any of the stuff that we talked about our old industry. I don't know if I've ever told you this.
What should we do more of? Well, our industry decided that because we're dealing with companies and a lot of times the CFO and the purchaser for copiers and all the office equipment and shit is we should sell them water filtration units.
Oh my God. Your face is exactly what's exactly what you should have done. No shit. The whole industry was like these water purification systems, huh? Yeah, right. There's no ANSAS matrix or BCG matrix or SWOT analysis that would have said this is a good idea other than the consultant that was selling it to the whole industry. But like it was an industry wide thing where so next thing you know we have two vans and plumbers on staff and like 15. It was a 15 total people in this division selling water units.
[00:32:06] Speaker B: What was the pitch exactly? Like how did that.
[00:32:09] Speaker A: Because there was a lot of margin in these water units. I mean like when I was in college, I actually ended up making like 15 or 20 grand in like two months selling water units. And because you'd lease them for five years at 70 bucks and the, the water unit cost, 700 bucks. But, like, what we didn't take into consideration is, guess what? Now we have 15 people on payroll and two plumbers. An inventory of plumbing, like, plumbing units. I mean, the like. And we would go try, you know, because of our cash relations, we'd try and go and, like, purchase more Canon copiers. We can't. We got a bunch of, you know, stuff on the line of credit for pulling. My point is, is like, understanding your product and service lines in relationship to your strategic plan. I mean, like, the whole end. I mean, the whole industry not. I mean, obviously not everybody did it, but, like, the whole pitch to the industry is, how do we have more profit per customer and what else can we sell businesses?
I mean, it was so, like, back of the napkin, caveman. Ish. But when we look at the target gross margins, understanding those product and service lines in relationship to the strategic plan is a must. It's also the same thing that I realized that managed IT services was not something that, like, out of our 3,000 customers, it was a smaller overlap than we thought, and we didn't understand, even though the margins were higher. And so I think it's just this constant view of the whole income statement in relationship to the owner's goals that has to be thought about as a whole picture because it's one machine. And then going back to then how. Being unbelievably truthful to how much does it actually cost to deliver that product and service.
And, like, I could. I mean, I could go through each one of those product lines of, like, the like. And we never really understood our margins, Kim, because, I mean, I know I'm just kind of bouncing around here, but, like, I want you to steer me and think about, from the audience's perspective of, like, how this could be related. Because in the equipment side of the business, I found out, because we had this constant internal debate of how much we should pay the sales reps commissions. Well, they were copier salespeople to begin with. Well, it was all based on gross margin of the equipment.
Well, on 20 million, it was like, I don't know, call like 7 or 8 million was the equipment, which. The margins disappeared over the years that my dad was growing the business.
And we're still commissioning people on gross profit. Well, the sales reps, all of their salary was in the cost of goods of the equipment.
Well, they were necessary to sell the print. Like, we sold the equipment so we could get the service contracts, which is what made the company valuable. So you think about. You got all these Sales reps and the cost to go to the margins of the equipment.
And the print side looks unbelievably healthy because there's no freaking salespeople in it. But we can't get the, we can't get the print revenue without the frickin salespeople.
And then it says. And then we in the equipment or the, the print side we had all of the techs and all of the cars and all of the inventory and all that shit inside of the margins or inside of the cost of goods. But on the IT services division the entire industry kept all of the payroll. So Paul and all of the people in our division were in sgna and so then you. The margins look amazing for IT services, but we have all this overhead.
My point is you think about those, just those three divisions. Oh and I in document management we would sell like a $200,000 project and our licensing might be 20 grand of like licenses we'd have to get from the reseller. We were the reseller. I'm sorry, from like the software company.
Well, we didn't have all of those sales implementation, the sales engineers or the service people allocated to that service. So we're like we're making a shitload of money on document management. Well yeah, of course, because it looks like it's 95% margin.
So think about like just with those four divisions we had no visibility on what we should be doing more of and why at any given point.
And that was where this constant conflict of like comp plans for salespeople, what are we trying to sell more of and why? How do we spend time for the service manager and what division and why do we need more support in any of those divisions or not? I don't, I mean it was this constant battle of just trying to chase more gross profit dollars in a quick time period.
And then you know, you sell a $200,000 project at 90% margin up front only to realize you have to service that account for years to come.
So I know like I said, like this is quite, quite the ramble, but I want to just walk through like just the pure chaos we had in our meetings because no one had any idea what we should be doing more of. But what the sales team all had was clear conversations with the customers. Like we didn't go with you because you couldn't do IT services as well and document. So we kept hearing these narratives.
Then we would just have to believe them or not believe them without any of the information. But I mean I just tell all that story Because I see this every single day with our community. Just people just trying to make these choices of, like, okay, we just want to help our customers more, but we don't know what our true cost to deliver that product or service is. And we don't know the interplay and interrelated dependencies of those products and services with the client.
Because again, everybody could say, quit doing copiers and just do the managed print, but it's like you need to sell the copier to get the print most of the time.
So I don't know. Like I said, that's a big ramble. But any. Any thoughts or gold nuggets you want to pick up out of that?
[00:38:10] Speaker B: Yeah, first of all, I think it was a really important story to share because it highlights why this module comes before the other remaining modules. Right. You would ask me why this module comes after revenue and some of the other ones. And I think that story highlights why this is such an important thing to figure out before you get into the operations, before you get into the comp plans and all the different things. And then to your point that you said at the end there, I think what you just described is very common across so many different businesses. So I'm just wondering what advice. Like, if our audience is sitting here and they're like, yeah, we're kind of just like making it up as we go along and trying to apply costs the best that we think that we can, like, what advice would you have for them listening into this episode?
[00:39:05] Speaker A: If this milestone, which. Well, if this milestone is about identifying our target gross margin, which is the percent per product and service line we have to think through. And I would start with what is industry standard to be a viable business?
Like, what is it? What is it for equipment?
What has to be true for us to know that this makes sense? So I would start with the industry benchmarks.
And I know that there are nuances, but we want to start with like, the standard and then deviate from there. For example, like, industry benchmarks for equipment might have been 40% at one point, but then it deteriorated to zero. But we still need that for the print services.
So I think it would be. Start with what is the industry standard for product and service line for a standalone in that industry or. And in that service or product, then I would want to know is what is included in that percentage?
I sat in these freaking meetings with a bunch of copier dudes and mainly dudes, and I remember sitting in this meeting and everyone's like, well, it's just a big Huge dick comparing contest. I mean, it was just so ridiculous, Kim. And they were like, well, my margins are this. And I'm like, okay, let me ask a bunch of questions. Because again, everybody's trying to be the best.
And you'll be like, where are your trainers? So the trainers would be the people that would go out and install the copiers and train them. Like, I mean, who needs to be trained on a copier? You're probably going like, I don't understand.
I don't know.
[00:40:42] Speaker B: We had a pretty complex one in the office. I just stared for like an hour. I'm like, I don't. There's so many buttons. I'm like, I'm pretty sure it was a spaceship of some kind.
[00:40:52] Speaker A: My dad used to say, where there's margin, where there's mystery, there's margin. That's why we make complicated. But so these people would come out and deliver and install the copiers. They'd have to set it up with your network, right? You have to get the scanner set up. You have to train the people on how to, like, you know, this is your document. You scan it here to your network, all that crap. Well, those costs grew like crazy over the time that I was at the business because the copies were not networked, and all of a sudden they're spaceships.
Well, I'd be sitting in my industry that, you know what comparing contest. And I'm like, oh, people are just moving like a half a million dollars of cost. Like, oh, so it's not in your equipment cost and it's in yours. So there was just no standardization of who actually has training and implementation inside of equipment for inside of service, or do you have your own P and L for training and implementation? So when I say, like, I would start with, what's this industry standard? Then really understand, like, what are they tracking?
Because I don't want to compare myself. It's if it's apples to oranges. So it would be like, what are they? What is the industry standard tracking?
So I can actually compare apples to apples. But then I would go and go and say, well, do I believe the data of what it actually costs to deliver that product or service?
Like, I have clients in our community where they don't have payroll inside of their cost of goods.
And whether it's manufacturing or service, I mean, there's direct payroll that could be part of cost of goods. And it's like, do you need people to deliver your product or service?
Well, if you do, it's part, like, if you don't have these things, can you deliver the product or service that was. That's like my common sense threshold, because you. I would want to know that answer. And so things that have come up recently as we've been building out the financial models for people in the boardroom, blueprint is almost everybody screws up depreciation, cost of goods.
So like a piece of equipment. So if someone has a huge piece of equipment that they need in order to deliver their product or service, if you paid cash for it, you want to depreciate that. Let's say it's a piece of equipment for $500,000 over five years, and therefore it's $100,000 a year in depreciation expense. That would go inside your cost of goods, which would be 8,300 bucks roughly a month.
That would be inside a cost of goods, not inside of your sga because otherwise your margins are messed up and wrong because you need the piece of equipment to deliver the product or service. So having the right people, having the right cost, having the right software expenses, like whatever you need to deliver that product or service.
And I don't know how ITR used to do it where, like your developers like the trends analysis and all that, I don't know if that was in your cost of goods because you probably can't do the trends analysis without some sort of ongoing, you know, expenses.
So I would go industry benchmark. What's actually in it? Then what do I believe actually has to be part of the cost of goods to deliver that service?
So then I believed the margins.
So that way we can make those decisions.
And then we have to figure out, okay, now that we understand the industry benchmark, we understand where we're at with the right products and services, first of all, is that apples to apples or not? Or do we need to. You can always shuffle some stuff around to compare yourself into the benchmark without changing everything.
Then you go into, okay, how do I stack up against what I think is worth it or not?
And then do. If I have five product and service lines, do I need all of those to keep all of the customers going with the user journey and the forecast that you have developed?
And then I can start making decisions to say, well, let's do less of this and more of that. Well, we still need to use this loss leader because then we can sell more of this.
And then we start tracking our rates of change on a, on a basis to say, okay, well, do I have to manage price increases? How do I manage labor increases? How do I Manage, you know, inventory increases and have a process and a pricing strategy that I communicate with my CRO to say, hey, we have things that are going on where we have to increase the amount that we're training these people. We have to now have four people on the bench.
And if we have to now have that cost of unutilized labor on our bench to actually sell the forecast that you're building, our margins are different now.
So I don't know if that's answering question like, what would I do? I mean, that's all the information that I want to see. And I just think it's an information management issue. And then I think that, like, those steps that I walked through of, like, industry benchmarks, what's in it where everyone agrees that these are the true margins, everyone can go through that exercise themselves.
Then it's like, how do we actually manage that data and accumulate that data if we don't have it? Which is probably the harder part than just having a conversation to a good agreement. But I haven't seen most people go through the process of even getting agreement on where they stand.
[00:46:07] Speaker B: No, no, I haven't either. I think I agree with everything that you just said and would just highlight in all of that too, is that it doesn't have to be perfect out of the gate. Right. If you're somebody listening in on this, like, the perfection is the enemy of greatness or however that saying goes. So it's just to start, your cost allocation doesn't have to be 100% done. It can be messy. Like Ryan was giving the example with the copiers. At least you guys were trying to track something and then doing the analysis. Like you're saying, go through each of them and say, what does it take to produce this particular product line? I would say we always did production as a part of the cost of goods sold. The entire production team was part of. But the sales.
[00:46:46] Speaker A: What's your definition of production?
[00:46:48] Speaker B: Anything that it took to produce it once it was sold.
So it would not have included any of the sales or account managers or anything like that. It was all of your analyst salaries, employment costs, software programs, any of the technology needed, project management systems. All of that was put into cost of goods sold.
[00:47:07] Speaker A: How about customer service?
[00:47:09] Speaker B: Customer service was not. They were always categorized as sales, which is so interesting.
[00:47:14] Speaker A: And like, I think, you know, we're getting close. We got like five minutes or less. Here is.
There are very logical debates around the margins of customer service, I think, and it's been a long time. I think they were Part of our service expense, customer or cost of goods.
Which like it seems rational. You can't, I mean people call in to get their copier fixed. If you don't have that, that's a problem. So like there, there is a logical explanation per industry, per, you know, company. But landing on something and documenting it and so that you can communicate it to the rest of your team is more important than being perfect to your point. Because all we want to do is have benchmarks to track the rates change.
[00:48:01] Speaker B: Right.
[00:48:01] Speaker A: And if you're changing that bucket constantly, we don't have good data to compare. So whether customer service is in sales or customer service insert is in cost of goods or whether it's in sga, like I could see a logical argument for every one of them. But like land on something and then make sure that you actually are consistent going forward so you can track your margins and then track the compensation plans and everybody feels like it's fair.
[00:48:26] Speaker B: Yeah, and I think that's a really important point too is like keep it consistent, at least for us. Fairly significant period in time. Because I've seen that just change. Like when you change your it up so many times you're going to like end up with all these notes all over your files and it's like we made this change and that's why this looks significantly different and all of that. It's better, better to be slightly off but still be able to have a baseline to compare to over time than it is to keep trying to tweak and adjust to every perfection.
[00:48:54] Speaker A: As a wrap up story, I don't know if this is just going to just totally throw a curveball because it just.
[00:49:00] Speaker B: Let's do it anyways. Curveball it is. Ryan.
[00:49:03] Speaker A: This is my total resentment towards the fiat system that we live in. Cpi, Consumer Price Index. When we talk about measuring percentages, CPI does not have a unit of measure.
Did you know that? Like so it does not have it, does it? Like, what does it measure? Like my house is square footage. Like we go through and we go, okay, what's a unit of measure? Because this is all back to like good reporting to make decisions off of. Well, first of all, it doesn't have a unit of measure which is so up like people like, right. I was talking about this with Paul yesterday. He's like, yeah, it doesn't have a unit of measure. Like yards, feet, square footage, no unit of measure.
So what are we measuring? The increase of the basket of goods. By itself, the basket of goods changes all the time.
Coffee's up. By a bunch. They take it out. Concerts are too expensive. They take it out at any given point. So they're measuring a basket of goods against no unit of measure. That changes all the time.
It's the biggest I op in the entire freaking world. And they go, well, CPI is 3.2%. Based on what? I want to go to 10 concerts. And those used to be included. Now they're 40 grand. Well, we took it up. You can watch them on Netflix. So, like, it's.
[00:50:22] Speaker B: We have.
[00:50:23] Speaker A: It's a total lie.
And so if we want good information, we have to be very thoughtful about what's in it. What's the unit of measure that we're measuring? What are the costs in it, what's the percentage? And we have to be able to track it consistently over time.
And the entire US Economy is based on this CPI total bullshit number.
Isn't that crazy? And we're making decisions on increase. And the reason that they have all the manipulation on it, because Social Security is based on the CPI. So if it's actually 8 to 10%, because the debasement of the dollar, they don't have to increase Social Security at the rate that they need to.
It's their true way of manipulating and lying to everybody. But we don't want to do that to our business.
We want real information, even if it's bad.
We're not making any money on this equipment anymore. But what we need is to keep the equipment so we can sell other things.
[00:51:21] Speaker B: Yep.
[00:51:21] Speaker A: So good data allows us to then track our target margins so we can say, okay, how do we have sustainable revenue and sustainable margins? That drops to the bottom line so we can actually get the distributions that we want.
[00:51:35] Speaker B: Yep. Couldn't agree more.
[00:51:37] Speaker A: I had to throw that in there.
[00:51:39] Speaker B: I like it.
I had not heard of that.
[00:51:42] Speaker A: Most people know that. All right, everybody, thanks for tuning in. Next week, we're going to continue the transferable margins and we're going to keep unpacking the top KPIs and how to. How to analyze and determine the KPIs for your industry.
[00:51:56] Speaker B: I love it. Looking forward to it.
[00:52:07] Speaker A: This episode is brought to you by Kastos Productions.
