For last last 6 or so years I've been running a company that is split between products (software) and services (contract software development). As the services side demands more of my time, I am increasingly questioning the "value" of a services business. In this context I am referring to a services business as a business which requires a human to perform some service at an hourly rate for another company.
Growing a services business is difficult. Since a human is providing the service, to provide more service you need either a) more humans, b) more revenue per service or c) more time. Scaling these variables is challenging part.
- We know that time is fixed and that 100% capacity is 168 hours per week, in reality much, much less, around 40 hours.
- We also know that companies have a natural cieling for what they are willing to pay for a service, let's say $300/hr.
- We know that the more complex the service provided, the more difficult it is to get additional qualified staff to perform said service.
So, according to the variables above, the only real way to expand a services business is to add more staff. In reality, as the number of customers grow other activities take up an increasing amount of time in communications, account management, staffing issues, etc. Thus the original 40 hours begins to fall as more and more hours are taken up with non-billable time.
As a small business it is almost impossible to compete for the high end consulting work as customers deem you as high risk. A perceived "safer" choice is to engage large consulting companies with supposed "experience". The reality is the large consulting company will subcontract out the work to smaller suppliers such as myself while skimming a (often large) margin.
Another factor particularly important in IT services is the fact that software development projects are not discrete. That is, it is unlikely for a software development project to actually end. We regularly have projects that come back like the ghost of Christmas past as the customer wants to add a few more tweaks and updates. Conversely, if you are an an excavator operator you dig a hole and leave, the customer will never get you back to continue work on the same hole to perhaps turn it into an airplane ;-) These continual mental context switches, jumping back to projects that were developed years ago, is a real mind bender and absolutely kills concentration since a small change involves relearning what was done in the past and what the implications of adding the new change are.
The provision of complex services require the use of competent and highly skilled staff. The more complex the service, the higher the staff knowledge needs to be. A couple of examples: 1) You run a window washing business. 3 of your staff members leave to go backpacking. It is very easy to replace them since after around 30 minutes of training you are a competent window cleaner. 2) You run an obstetrics business (you deliver babies). 3 of your staff leave to become GPs. Replacing them is a difficult task since they need a medical degree plus more years specialising. Software development is somewhere in between.
So what's the bottom line? If you plan to run a small services business you need to really think about the economics and compare that to working in some other services business. Effectively you are buying a job and a lot of headaches (tax, accounting, marketing, planning, staffing, ...).
Product based companies scale much better. If you make widgets, selling one or ten requires little extra effort. You can also engage less skilled staff in the sales and billing parts of the company to streamline the sales and billing process. In addition the negagement of resellers further alleviates the sales burden. Rather than dealing with 100 customers directly you deal with say 10 resellers. Sure, you take a small hit on the margin but the resellers really absorb a large portion of the sales effort.
Now I'm sure the skeptics out there may not believe the above hypothesis, so here's some research for you: Take a look at the following top 50 companies for 2007 and work out the proportion of products vs services companies. The results should be obvious. http://www.diversityinc.com/public/1595.cfm