Visualize travelling in a boat that has tiny holes at the bottom. The holes may be unnoticeable, but the boat will slow down as it fills with water unless the passengers do something to fix the leaks. The worst-case scenario is the boat will eventually sink, taking all crew and passengers with it. The same is true with revenue leakage — profits will sink unless the gaps are filled.
Every business, irrespective of its size, suffers from revenue leakage. Simply put, revenue leakage is any unnoticed or unintended loss of revenue from an organization. If an enterprise is not actively looking for revenue leakage, it can go unnoticed indefinitely. Even seemingly minor leaks lead to significant loss of revenue in the long run, particularly in a global enterprise.
Similar to revenue leakage, margin dilution is also a constant threat. Margin dilution occurs when the actual profit margin of a project is less than the planned margin at the time the project was agreed upon and contracted.
Research shows that revenue leakage happens at most companies and will ultimately stand in the way of a services businesses ability to scale or even remain profitable. Much like the sinking boat, even the smallest leaks will have detrimental effects. Research and strategic advisory firm MGI Research estimates that 42% of companies experience some form of revenue leakage. Analysts at Ernst & Young have suggested that every company should expect to lose 1% to 5% of realized EBTA to leakage. This means that, whether you know it or not, your professional services business is likely affected by revenue leakage, margin dilution, or both. Understanding their causes, as well as strategies that can solve them, will make a massive difference.
What Causes Revenue Leakage and Margin Dilution?
Inefficient processes, systems, and outdated operations cause revenue leakage and margin dilution. These issues often boil down to missed connections between people, teams or departments.
For example, one of the leading culprits of margin dilution happens before projects even kick off, during staffing, when resourcing managers may be forced to staff more expensive resources than the sales team had projected on an engagement in order to avoid delays. And a good deal of revenue leakage stems from poor communication between field teams and the back office, leading to improper billing, unbilled services, underbilling, late billing, failure to invoice all billable hours on a project, or billing errors.
The root cause for many organizations is disconnected systems, with teams operating out of data silos that make it too hard to see the big picture and detect the symptoms of revenue leakage and margin dilution as they’re happening. Businesses that have a single source of truth for resource planning, project management, timesheets, and project accounting are much better able to see and avoid traps that commonly go unnoticed at other organizations.
Some practices that commonly go unnoticed in organizations include:
- Over-discounting – cutting into profit margins built into service offerings
- Poor Resource Mix – providing skilled resources at a lower day rate
- Scope Creep – including additional work that wasn’t part of the agreed upon scope at lower or no cost
- Invoicing Errors and Delays – preventing businesses from efficiently billing clients and being paid what they are owed
Changes in project scope can also lead to margin dilution. This can be caused by:
- Unrealistic project objectives
- Miscommunication or lack of communication between project team members
- The acceptance of client scope changes without properly impact-assessing the changes on project finances
Organizations need a clear change management process to mitigate the impact of project changes on margins. On other occasions, giving up some margin to ensure an excellent customer experience is a strategic decision leaders will make. It is important, however, for the business to know when, where, and why they are giving up margin instead of being surprised once the books close.
Stopping The Leak – Before the Boat Sinks!
Just like with leaks in a boat, once you locate the holes in your organization that are leading to revenue leakage, you can and should fix them. Here are some of the most common strategies for identifying critical gaps and curbing revenue leakage and margin dilution.
1. Getting All Teams Working Together Coherently
Enterprises with hundreds of people performing billable work or engaged across multiple service lines need the tools to review leakage and dilution. Managers should monitor the discrepancy between planned revenue and margin and what is actually achieved on the project. Revenue leakage can also emerge when the right resources are not available at the right time. The clients agreed on the cost and the schedule, but the people aren’t available to do it. Human Resources may hire new resources at a higher cost. Revenue either slips or is lost altogether.
The entire project team, project manager, account owner, and resourcing manager must work closely together during the project lifecycle. They need to constantly review project plans and financial data, and adjust resourcing to ensure successful delivery and commercial health.
Early visibility into variation from the plan or changes in scope is key. The problem is that the information needed to identify variance is too often distributed across multiple operational systems – project plans, resource plans, timesheets, and finance systems. As a result, the key stakeholders just don’t have early enough visibility into project data to take corrective action. Similarly, resource managers must ensure stakeholders can make decisions in both operational and commercial context.
2. Establishing Repeatable Processes That Eliminate Billing Inaccuracies
To minimize the impact of billing inaccuracies, professional services firms should establish repeatable processes for providing accurate cost estimating. Preparing realistic estimates is an important first step when planning for a profitable business project. To do so, project estimates need to accurately forecast the cost of expenses, risks, and issues.
Billing processes also need to be repeatable. If firms don’t bill clients accurately or promptly, they will inevitably have to write off revenue. As a result, services businesses need to focus on financial processes in order to reduce revenue leakage.
3. Developing a Single Source of Truth
Services businesses must establish a single source of truth for account managers, resource managers, and project managers. A single source of truth should provide visibility and control around project plans, pricing, budgets, resource plans, project accounting, project pipeline work, and utilization rates. Complete visibility into all the data associated with a project helps highlight sources of revenue leakage. In addition to comprehensive visibility, a solution should monitor budget versus actuals in a single system. The platform needs to be able to detect variance early and advise an early corrective action to maintain performance against commercial targets.
The process must be underpinned by governance over appropriate pricing and margin rules over write-offs and discounts. The solution needs to drive insight across the business and provide greater intelligence, transparency, and insight for the entire enterprise — from sales to resourcing to operations to delivery and finance. All key stakeholders need to be enabled to work together to tackle revenue leakage and margin dilution so that they can spot the early signs and take action early.
Providing Insight is Vital
Professional service organizations have a hard enough time maintaining a competitive edge while navigating the powerful currents that are constantly reshaping the industry. Enough revenue leakage and margin dilution can capsize a services firm that fails to stop even the smallest of leaks. Providing managers with business intelligence insights into the commercial impact of decisions is vital. This will enable managers to plan ahead with confidence and evaluate options side by side. Providing a single source of truth with forward-looking insight and collaboration across functions is the only way businesses can adequately tackle the problem of revenue leakage and margin dilution.
But how can you truly understand your business performance? Find valuable insights in Kantata’s new whitepaper “How To Tell If Your Professional Services Organization Is Flagging.”
Kantata takes professional services technology to a new level, giving people-powered businesses the clarity, control, and confidence they need to optimize resource planning and elevate operational performance. Kantata’s purpose-built software is helping over 2,500 professional services organizations of all shapes and sizes in more than 100 countries to focus and optimize their most important asset: their people. By leveraging the Kantata Cloud for Professional Services™, professionals gain access to the information and tools they need to win more business, ensure the right people are always available at the right time, and delight clients with project delivery and outcomes.
