For Starters #32: Start with a Professional Services Firm, Not a Product
“A startup is an organization formed to search for a repeatable and scalable business model.” - Steve Blank
I’m now booking for Q4. Since we last talked I’ve helped:
a funded startup develop a value-based, strategic pricing framework to support selling into enterprise clients
an well-known enterprise execute customer discovery for a potential new venture
a number of startup founders improve the outcomes of their customer sales calls.
Reply or simply grab a time off my calendar to start a conversation on how we can capture the customer insights you need to readily achieve your 2025 goals.
A big thank you to Dan and Sherman from NextMile and Dustin from Modern Logic for contributing to this installment.
Last I heard, it’s taking at least 9 months of full-time effort to raise a $1M seed round. That’s a lot of time networking, pitching, and selling the promise of market demand at the expense of pursuing paying customers, revenue, and actually capturing the market demand.
5.5M new business applications were filed in 2023.
That’s more than >150,000 each single day (mine was one of these).
The top 5 new businesses types - by NAICS code - opened last year are:
Retail Trade (my guess is dispensaries)
Professional, Scientific, and Technical Services (this is where I am)
Construction (⅔ of the NAICS categories here are different kinds of contractors)
Other services,
Transportation & Warehousing (I’m guessing rideshare drivers)
Also in 2023, there were 13,000 venture capital deals (~35 each day).
For the sake of argument, let’s say each of these 13,000 started and received their VC funding in calendar year 2023.
This means 0.024% of all new US businesses secured venture funding. But that’s probably not the case (takes a while to decide you want VC funding, takes a while to get it), so 0.024% is probably very, very high.
To belabor the point:
>99.976% of new businesses don’t raise venture capital.
Thus closing a round is equivalent to winning the lottery.
During the era I was in design school, joining an in-house creative team after graduation was the exception - not the expectation. At that time, a world where every company had an in-house design department....was considered an idealistic, self-involved, designer utopia. As such, the highly pragmatic 4-year program was designed to prepare students for an entry level job at a professional services firm; design studio, advertising agency, marketing firm, print shop, etc.
Assignments were mock creative briefs. We learned to fit our work into those briefs, in weekly reviews we criticized each other's work against the brief, and in private we bitched about the brief’s uncomfortable constraints. I’m sure many of you can relate. And yes, 4 of my first 5 design jobs after graduation were in professional services firms (the outlier was a hardware startup).
When I went out on my own, my first clients were other professional services firms. When one of my products started to gain traction and I considered dropping my professional services firm, my accountant (another professional service firm) shrugged, "It's just a professional services firm, do whatever you want with it - it's not an asset, you get hit by a bus it no longer exists. Poof.”
I was immediately devastated.
Then I was liberated.
Unlike some businesses, professional services firms require no upfront capital. There's no equipment or inventory to finance and - for many industries - there's no licensure or certifications necessary.
All that's required (in chronological order):
A skill
An offering based on that skill
A client saying 'yes' (As Rob Snyder also advocates - the fastest way to identify demand is to sell)
An LLC (incorporated in your home state, cuz Delaware doesn't provide you any benefit yet…or ever)
The client paying (revenue!)
Delivering the value to the client.
Easy to see why services are the vast majority of new business filings.
Notice what’s not on this list of requirements:
a finished product
startup capital
a team
an office
a pitch deck
a business plan
a business model canvas
This simplicity, this lack of pre-requisites, this barest of bones business model is the strength - especially For Starters. It creates an environment where you're incentivized to, paraphrasing my accountant, “What the market tells you to do with it.” - and get revenue in the door immediately.
This means professional services firms have very low overhead.
Unfortunately, the overhead is both fixed - salaries, benefits, per seat software licenses - and walks out the door every day. Also unfortunately, professional service firms - especially those selling billable hours - suffer from a lack of operating leverage, This means it’s easy to have just enough sales to keep the lights on, but not enough to ever reach escape velocity of scalability.
“Fixed costs help you scale profitably against clear demand, variable costs give you survivability when you haven't proven things will work. Flexibility's water when you're wandering the desert.” - Dan Barthel, Founder, NextMile
This is why so many firms start and stop with the professional services model. Sure, they expand - grow staff, grow locations, scale linearly - especially if they’re selling billable hours (as the only way to increase your supply of hours is to grow staff). Eventually selling larger and ever more ill-fitting work to consume the billable hours for their ever burgeoning staff.
This creates a firm more brittle and self-involved than resilient and responsive. My friend Dustin Bruzenak, CEO of Modern Logic, calls this a “hits-based business” (a far more optimistic metaphor than the “feast or famine” I learned in design school).
Rather than stopping at professional services, I'm encouraging you to keep going.
From a JobsToBeDone perspective the client is never buying the hours or butts-in-seats.
The client is buying improvement against some business problem. They don’t necessarily care how the improvement is delivered, though everybody wins when it’s delivered sooner rather than later (yet another reason billable hours are a bad idea 1 ). In fact, fixating on how the outcome is delivered often signals the downfall of any organization (Xerox, Kodak, Nokia, Blockbuster, etc, etc). Startup product firms can fall into this ‘how’ trap if they forget Product - Sales = Waste and don’t consider every unsold feature is lurking technical debt.
“Building is a really expensive way to prove a point.” - Sherman Bausch, CEO, Capption
All of this is a nice reminder that business transitions are hard in any industry.
Leadership in professional services firms often find high billable hours far too attractive to let go of - even if letting go means better operating leverage, higher margins, steadier sales, and a more valuable firm. This is the business they know and understand. 🤷
My previous professional services firm made three significant service transitions over 15 years and tested half a dozen different commercial products, including events, along the way. This amorphousness is the great thing about professional services firms. Again, being what the client needs at the moment.
Legend has it, Oracle started as a team of consultants selling database implementations that looked and felt an awful lot like technology consulting engagements [citation welcomed] because the database product was built in parallel with sales (Product - Sales = Waste).
This legend suggests a professional services firm can be designed to de-risk market demand and incrementally automate the value proposition into a scalable product (software is automation!). The entire professional services doesn’t even need to be automated away, to this day Oracle has teams of consultants supporting a multitude of database products.
Ideally, however the product is simply an automated version of the service. This automation can begin in-house to increase the capacity of the service team. Flat fee, value-based pricing helps build the right internal incentives and the necessary capital cushion for product transition, and make the internal transition easier as well. The transition from service to product should be barely noticed by the client base perhaps only notice in increased reliability and consistency.
There's going to be some attrition when the CEO announces to each client, "we no longer do the work you know us for," just as there's going to be some attrition from the staff that enjoyed the wide variety of the previous client engagements.
However, the skills required to run a professional services firm are highly transferable to product firms;
a focus on a robust sales pipeline
a focus on sales at a profitable level
a focus on customer success and satisfaction
To some degree, product firms are even simpler - as every client has purchased essentially the same thing (and the firm shouldn’t accommodate a single client’s feature requests), and every client benefits from quality improvements.
“Bluntly, the surest way a professional services firm can increase its operating leverage/trim variable costs is to build a product and then transition clients to that new product-centric model. If you don't actually make the shift, then you're running two businesses under one name with your margin coming from the high variable cost center plus the costs of an underused fixed expense.” - Dan Barthel again.
I’ve witnessed the bifurcation Dan is warning of, the farther the product is from the service offering - in value proposition, in customer segments, in go to market - the more likely it will destroy both. The goal is for both the product and service to fulfill the exact same customer JobToBeDone - only differing by internal labor intensity.
If they’re not the same JobToBeDone, one of them needs to be shut down immediately, and history suggests it’ll be the nascent product side.
Three examples of successful firms making this transition:
Twenty some years ago, 37Signals started as a web development shop and built a project management tool for themselves. Then successfully transitioned to selling the project management product. Selling a product that makes your service business more successful is the maximum conceptual distance I’d recommend before risking falling into valley of death Dan evokes.
I’m also reminded of JAMF co-founded when by my friend Chip when he owned a Apple hardware repair firm. The JobToBeDone for both businesses: Make Apple products easier to manage and maintain for IT managers.
The Playbook is one of my favorite contemporary examples of a hard to scale professional services offering transitioning to a highly scalable product while holding the JobToBeDone constant.
"A startup is a company designed to grow fast. Being newly founded does not in itself make a company a startup. Nor is it necessary for a startup to work on technology, or take venture funding, or have some sort of 'exit.' The only essential thing is growth." - Paul Graham
PG’s definition is a nice reminder that despite the name, ‘startup’ isn’t actually about starting. It’s about aggressively scaling. You’ve got to start somewhere and professional services firms are brilliant, low-cost, temporary, vehicles to validate demand while generating revenue. However, they need to transition into product companies to be an appreciating financial asset.
If that’s your definition of success.
There are of course other definitions of success, growth, and service.
"Growth can be a ruthless elimination of the fat in your business, through both automation and saying 'No' frequently." - Me
Perhaps the only benefit of billable hours is making it hard to hide the cost of yourself. https://longform.asmartbear.com/ramen-profitable/