7 Keys to Running a Profitable MSP

Building a profitable MSP business does not happen by chance. It requires careful forward planning, financial know-how, and ongoing measurement and monitoring.

You may be in the exploratory stage of starting a new managed service provider (MSP), or perhaps you've been battling uphill for several years and wondering when things will improve. The following keys will help MSPs in both positions achieve their goals.

1. Understand What Profitability Entails

The first key to running a profitable MSP is to understand what profitability entails. In its simplest sense, profitability means making more money than you spend in order to earn that money.

A closer look reveals the following three prongs to running a profitable MSP:

1. Make more revenue than you spend on expenses, while...
2. ...ensuring customer satisfaction with high-quality service delivery, and...
3. ...developing a business model you can scale without compromising the first two points.

Get these three points right and you have the recipe for long-term profitability and business growth. Get them wrong and your managed service provider likely won't last very long.

2. Establish a Clear Financial Goal

The only way to achieve profitability is to establish a clear goal and then work your way backward to the figures needed to achieve that goal.

To begin, define where you hope to be in 5, 10, or 20 years:

• Is your primary goal financial sustainability, or do you want to build a large statewide, national, or international MSP?
• Do you imagine yourself working in your MSP until you retire, or are you building up the business to hand over the management to someone else?
• Do you want to retain ownership or eventually sell your MSP for a profit?

Once you have established your financial vision, work out the figures needed to achieve this vision so that you can develop an actionable business strategy to get you there.

3. Establish Your Business Strategy

This is where the rubber hits the road. How will you actually make the amount of revenue (with workable costs) to achieve the figures you need to reach your goals? For that, you'll need a strong business strategy based on what actually works in the MSP industry.

The good news is that there is a wealth of information available now about business strategies that work (and don't work) for managed service providers. The following are a few real-world insights to help you develop a business strategy that delivers the figures you need.

1. Define your niche and ideal customer. "Jack of all trades, master of none" doesn't work anymore in the managed services industry. There were estimated to be 40,000 MSPs in the United States in 2019 and you'll need a clear niche to stand out from the crowd. Identify a specific target market and create an Ideal Customer Profile (ICP) with psychographics detailing your ideal customer’s values and preferences so that you can reach these people more effectively. Niches are generally specific industries like medical clinics, car dealerships, golf clubs, or government entities. 
2. Identify your key value propositions. Identify exactly how your skills and offerings will save your target customers time, money, and headache (and how much) and articulate these value propositions clearly. These will form the foundation of your marketing efforts and sales strategy.
3. Choose an MSP business model. MSPs can offer managed services, product sales, or both. A hybrid model that includes both managed services and product sales is the most common nowadays, and is advantageous because it allows you to diversify your income streams.
4. Define your pricing strategy. There are various pricing models managed service providers can use. Tiered bundles are generally the most profitable because they generate a more consistent and reliable monthly recurring revenue, streamline sales and billing, and help customers see you as a one-stop-shop for technology services, advice, and support. Your top tier bundle should include the full suite of managed service offerings (such as cybersecurity, network security, VAR, cloud services, email, storage, backup, etc.) as well as your MSP's unique offerings.
5. Calculate your costs. Costs are the other side of the revenue coin. Labor costs that exceed your service revenue will quickly put you out of business. Consider the effect of your chosen solutions on the costs of service delivery. For example, Thread saves managed service providers significantly more than it costs by automating routine tasks, cutting down ticket resolution times, and increasing customer satisfaction. This enables your existing team to take on more work without increasing overhead.
6. Define your marketing strategy and sales process. How will you make your target market aware of your offerings? How will you make contact with leads and bring them in? What is your cross-sell and upsell plan for maximizing your average revenue per user from your existing customer relationships? You need a clear plan for both marketing and sales and team members with skills in these areas.
7. Identify potential issues and their solutions. Failing to plan is planning to fail. Make a detailed list of things that could go wrong (in-house, with your solutions, and with clients) and create contingency plans for each potential issue.

Your initial business strategy may work well but will need to be updated over time as technologies and industry trends evolve. Attending MSP conferences is a great way to stay up to date with solutions, pricing models, and marketing and sales strategies that are working in the current business climate.

4. Measure and Monitor Your Financial Performance

Let's imagine you have launched your managed services business—either with a clear business strategy or simply by accepting any and all IT requests that came your way and evolving as a business as you go. You now need to measure your business's financial performance with MSP KPIs relating to finance and monitor your performance in these areas over time to make strategic improvements.

Key Financial KPIs to Track

Track the following KPIs for a clear picture of your finances.

Revenue (by Income Stream)

Calculate your total monthly revenue for your product and service offerings separately for a clear picture of your income. Monthly recurring revenue and one-time revenue are also best considered separately.

Profit Margins

Your MSP profit margins matter immensely for achieving overall profitability. Healthy profit margins for an MSP are generally 50% or more for your gross margins (before operating expenses) and 20% or more for your net margins (after operating expenses).

COGS

The cost of goods sold includes everything you spend to offer goods and services (product licenses, software subscriptions, labor costs, transport, training, materials, and so on). Calculate this figure for each of your product and service offerings separately.

Service Multiple of Wages

The service multiple of wages is your total service revenue divided by your total taxable service wages.

Effective Rate Per Customer

The effective rate per customer is your total monthly revenue from each customer divided by the number of hours you spend each month servicing that client.

Effective Rate Per Offering

The effective rate per offering is your total revenue from a given offering divided by the number of hours you dedicate to that offering in the same time period.

5. Partner with Finance Professionals

Odds are that you and your team have more expertise in IT than in finance. Do yourselves a favor and partner with a finance team such as MSPCFO that can help you track your finances consistently and analyze your financial records to identify areas for improvement.

Some MSPs may hire an outsourced bookkeeper, others may use bookkeeping software and hire an accountant for periodic analyses and tax support. Yet others may invest in a reputable business advisor to help them improve their profitability over a defined period. Whichever path you choose, rest assured that it takes financial expertise (either your own or a professional's) to build a profitable business.

6. Build Your Financial Software Stack

Most MSPs use technology at some level to track and manage their finances. Software makes the whole process much more efficient and gives you financial data you can use to make decisions to improve your profitability.

A common financial tech stack for an MSP involves a PSA platform for time and expense tracking and an accounting software solution for invoicing, bill payments, payroll, generating financial statements, and filing taxes (you may find some PSA and accounting software features overlap). Thread's Magic AI automates time entries, saving techs at least 30 minutes per day on this task and ensuring complete labor data for billing and reporting purposes.

7. Improve over Time

Improving profitability is an ongoing process. Getting out of the red might be your initial goal and then you can work on increasing your profit margins until you reach that coveted 20% (or more!).

External factors such as changing economic conditions, new technology, and changing customer demands will also impact your revenues and costs. Monitoring revenues and costs regularly and continuing to improve your operational efficiency are necessary for improving and maintaining your profitability over the long term.

Turning a Profit Requires Strategy and Work

Running a profitable MSP business is possible but requires strategy, work, and accurate data. To improve your profitability:

• Take the time to learn as much as you can about financial management and strategies that are working for other managed service providers.
• Collect consistent and accurate financial data to help you measure and track your performance.
• Consult with financial experts who can help you identify areas for improvement and put the insights you learn into practice.
• Implement technology solutions that help you track your finances and improve your team's efficiency so you can make more revenue in less time with the same (or better) service quality.

Do all of that consistently and you should soon see your bottom line improve!