Episode 146 | Product Companies Vs. Service Companies

Show Notes


[00:00] Rob: In this episode of Startups for the Rest of Us, Mike and I discuss product companies versus services companies. This is Startups for the Rest of Us: Episode 146.

[00:08] Music

[00:17] Welcome to Startups for the Rest of Us, the podcast that helps developers, designers and entrepreneurs be awesome at launching software products, whether you’ve built your first product or you’re just thinking about it. I’m Rob.

[00:26] Mike: And I’m Mike.

[00:27] Rob: And we’re here to share our experiences to help you avoid the same mistakes we’ve made. What’s the word this week, Mike?

[00:31] Mike: Well I just got back from vacation. Naturally because of that, I’ve gotten nothing done over the past week or so but other things have still been moving along as the different contractors. I have been working on things here and there. And because of the way some of the things in AuditShark work, I can just make things up and they’re like I didn’t know I could do that and I’m like well, it can now but only because I designated that role case.

[00:52] Rob: Nice. Because you were like off the grid for a few days.

[00:55] Mike: Yeah. We went over to Niagara falls first and spent some time out in that side of New York and then we went to the Adirondacks. From the beach I had 4G wireless access which is kind of awesome.

[01:07] Rob: Awesome. Yeah that is cool, so you could go down there and watch the kids play and get some stuff done.

[01:11] Mike: No, I got nothing done. I sat in the beach and got sunburned.

[01:15] Rob: But you said hey look, I have 4G and I’m not going to do any work.

[01:19] Mike: Exactly. That’s really what happened.

[01:20] Rob: Because whenever I come back from vacation I find that I’m either totally charged up to hit work really hard or I come back and I’m completely unproductive because I would want to stay on vacation. Do you have a typical mode that you come back or does it vary? And how do you feel coming back off of  this one?

[01:36] Mike: Because it was such a long drive on Friday and when I got back, I wanted to do nothing for the rest of the day but then on Saturday I spent 5 or 6 hours doing work and I actually got a lot of work done on Saturday. But the past two days, because today’s Tuesday, I really haven’t gotten very much done because I just haven’t really felt like it. I had that burning desire to get things done when I first got back and then it just completely went away for a couple of days.

[02:02] Rob: Yeah. Well we want to send a congratulations to Josh Pigford. He’s a MicroConf attendee this past year and he runs pop survey. He just launched a new app called temper and it’s ate temper.io basically it’s a way to survey your customers on an ongoing basis and to find out how your customers feel about every aspect of your business. So it’s kind of like a little mini survey tool. It’s pretty neat. And he’s basically created a little coupon code for our listeners. It’s a SAAS product so it’s a monthly subscription.

And if you used coupon code podcast, you’re going to get 50% off forever, for as long as you are a customer. So if that’s something, and I’m definitely going to be looking at getting something like this into Drip especially in the early days to figure out how frustrated people are. There’s a bunch of different options but the one I like is kind of the multiple faces and there’s like a sad face, a medium face and a smiley face. And then you can prompt them from their based on what someone clicks when they log in.

[02:55] Mike: Yeah. That’s really cool. I really like the way he’s kind of built the website on and the design and the product itself looks really interesting. It’s very crisp.

[03:03] Rob: I feel the same way about pop survey. The other thing I like about this is I’ve seen it, this functionality custom built in several apps that I use and I’ve never wanted to custom built, and I am so willing to pay for something like this that allows me to – I’m assuming it’s just a snip of a java script that you drop in. I’m so much more willing to do that than to have someone, one of my developers taking off the core app to build a little off shoot product like this.

[03:30] Mike: Yeah, so congrats to Josh on that. Have you checked out the Gmail tabs at all?

[03:35] Rob: Yup. I’ve disabled them after about three days. It was like I had three inboxes to check and I hated flipping through the tabs.

[03:42] Mike: Yeah. I’m kind of in the same boat. I’ve been using it for two days now and you’re right. It feels like I’m flipping through different inboxes and its just like why am I doing this again?

[03:53] Rob: Yeah. I understand the gist of it. I think it depends on how you use your inbox. I actually stuck with inbox zero for 6-8 weeks and just last week I got an inrush of emails and I probably have 20 in my inbox right now but I’m trying to get back to inbox zero. And since I do that and I put things in my Trello list instead of trying to keep in my own inbox. Having the three inboxes – it just didn’t work with my workflow.

[04:18] Mike: I think what bugs me about it is it doesn’t seem that you can customize it be on the tabs that they give you. They give you these certain tabs and that’s it. But I don’t really see them as any different than the labels and stuff that you can apply to things as they come in. You can just say oh well, if it matches these criteria then mark it with this label or that label. I just don’t see it as any different because those labels all appear on the left for me as opposed to the tabs which go right along the top.

[04:43] Rob: Right. I think they’re supposed to learn a little more than your filters. Your filters are static when you set them but…

[04:49] Mike: Yeah. And you can drag and drop things. It will learn but I just don’t really see the point. As you said, I mean if you got one inbox that you’re trying to keep to inbox zero, you feel like you’re switching between 3 or 4 different inboxes. And it kind of sucks.

[05:04] Rob: so I was on the bootstrap web podcast came out a day or two ago and its by Brian Casel. He launched sweetprocess.com we’re actually putting together your SOP docs, your standard operating procedures and other ways of organizing docs for VA’s and other processes. So he interviewed me about scaling a portfolio of software products and it was a pretty fun interview because it wasn’t stuff that I – it was some specific questions that I haven’t answered in the past on other interviews.

[05:31] It’s nice we spend almost maybe 50-55 minutes going into this stuff that we don’t have time necessarily to cover on this podcast and never going to talk on it. So I’ll like that up in the show notes and if you go to casjam.com you can check out that episode.

[05:48] Robert Graham who’s a lifetime academy member, been to every MicroConf, he posted a really insightful comment on episode 144 and it was regarding Dave Ganoe who has sent us a question. And he was considering building an expense tracking apps for engineers and construction firms. So Robert’s comment, the full comment is there. You can read it but I just want to excerpt that.

[06:11] He basically said if you’re serious about the engineers/construction niche, I have a few pieces of advice. There are professional organizations with local meetings for civil engineers in particular. They’re always looking for speakers. Be a speaker. Additionally, go talk to some engineers out there. It’s not hard to send out some hand written emails after researching some promising targets. 5-10 in person meetings will change a lot about how you approach the niche. You can get that done in less than 4 weeks without any trouble. I validated an idea for consulting engineering firms and I built a list and did this in the Austin Texas area.

[06:41] One thing that Rob and Mike did not mention about outbound sales but I think is really important to keep in mind is you may have to do it to get jump started. Jason Cohen’s MicroConf talk included an anecdote about scratching and clawing to get your first 50 customers. You do need a repeatable and affordable channel to build the business but you shouldn’t quit until scratching and clawing and totally unscalable ways doesn’t work. Also happy to chat by email, Dave.

[07:03] So Dave, if you’re listening to this and you would like to get connected with Robert, you can click through to his site. He’s at coldcallingbook.net or you can drop us a line and we’ll connect you with him. So thanks Robert for the obviously good comment and for offering to help out with Dave.

[07:17] Music

[07:21] Mike: So this week we’re going to talk about some of the differences between product and services companies and kind of contrast them a little bit, talk about where the overlap is, talk about some of the pros and cons of where they might be jealous of each other I’ll say.

[07:35] This particular episode is inspired quite a bit by Patrick McKenzie’s blog article where he actually – there’s two different blog articles where he does products versus services and then services versus products. And discusses some of the pros and cons but he also talks about how each of them can learn from the other.

[07:51] Rob: So the purpose of this episode is so product companies can realize that they might not have it as good as they think and service companies can realize that the  grass is not always greener on the product side. Is that the idea?

[08:05] Mike: Yeah, that is the idea. And especially when you’re first getting started on the software side, I mean there’s a lot of pressure to go move more towards the services side just because it’s so much easier to build your business in the beginning when you’re doing services because services, it’s very easy to customize those things. Whereas when you build a product is its very much set. It’s trying to solve a very, very specific problem.

[08:27] But with services, you can talk your way around those things. Say well this can’t do that right now but I can make it do that and here’s how much it’s going to cost and how much time etc. When you’re offering a product, it’s very much pre-packaged. It’s hard to do that unless you’re doing an in-person sales. We’re going to talk about some of the pros and cons of each of the different types of companies.

[08:46] So why don’t we start with the pros of being a product company? Running a product company. I think the first one is with the product company, you can typically scale it a lot higher with less people. Usually when you’re trying to scale out the business in terms of the problems that its solving, you use automated resources like you’re throwing additional servers at the problem or you’re writing more codes to solve additional problems or to do it for more people.

[09:10] This is one of those classic draws for product companies where you don’t have to hire more people to process more data from your customers. You simply write more code or you distribute it among more servers and you’re paying for more servers as opposed to paying for more employees to process work.

[09:26] Rob: Right. So when you say scale higher you mean in terms of revenue right? Growing company?

[09:30] Mike: Well both in terms of growing revenue but also in the size and scale of the problems that your solving. Let’s say that you’re analyzing data for customers and whatever that analysis might be, let’s say that you reach this tipping point where one server isn’t enough to solve the problem. You can add another server.

[09:50] Versus if you’re running a services company, somebody gets to the point where they’re overworked, you have to hire somebody else. Well the problem with hiring a new person is you’re doubling your cost which is fairly substantial for having an employee. But when you’re adding a server, the cost of adding a new server to you infrastructure is monumentally less than it is to hire an employee.

[10:13] Rob: Right. And this is I think the holy grail of product companies and why anyone who’s doing services are – I’ll say most people who are doing services do have their eyes on doing products. My eyes were first opened to this when I was reading Joel Spolky’s blog back in probably 2001-2002. He just talked a lot about the economics and product companies and now something takes off, you get a product that really does start scaling up. it can be just astronomically different in terms of having to hire employees.

[10:41] You can just have a much smaller team and yet still like you said, solve bigger problems or have a lot more revenue which I think is probably been the goal for most of us.

[10:52] Mike: Another pro of having a product company is that you’re typically a lot less dependent upon a single customer. When you have services companies, obviously you have to deal with selling those services to the customers and there’s a lot more revenue involved. However, you’re trying to spread that revenue out amongst multiple customers as a product company because you don’t want all of your eggs in one basket. You want lots of people paying you smaller amounts of money so that there’s not one single source of revenue if they decide oh, I don’t need your services anymore, then you’re going to go out of business. Whereas with a product company its really the opposite.

[11:26] Rob: Yeah. This is a big one. I worked with a couple of confuting clients back when I was still doing it who yeah, they just weren’t that easy to work with. And since they were either 50% or 100% of my revenue, I couldn’t really turn them down. It’s so hard to fire a client when you only have one or two of them. I really do think perhaps one of the biggest perks of owning a software company that’s building products is that you really shouldn’t be reliant on any single customer or even any small group of customers.

[11:58] And if you are, I’ve heard of some folks who do this who get this really big contracts and there might be one customer who is 40% or 50% of their revenue and that’s something to get out from other as soon as possible if you find yourself in that situation because at that point, that customer has a lot of control over you. So that’s something like I said, definitely consider trying to solve if you find yourself in that problem.

[12:20] Mike: Yeah and that kind of lands into the next positive thing about having a product company is you control the direction. If a customer wants something out of their products, you can just say well no, it doesn’t do that and it’s not going to ever do that. Very similar to what you just said, if a single customer is locking up 75% or 80% of your revenue then it’s very difficult to tell them no, because then they can just turn around and walk away.

[12:46] But with products, because that is distributed amongst different customers, if one of them comes to you and says hey I want you to build XYZ, you can just tell them no, that doesn’t fit in with our product strategy and you can essentially just move on right there.

[12:58] Rob: One of the big perks of being able to control the direction I think is you’re able to express some of your creativity. You’re able to come up with unique ideas, interesting approaches to solving a problem within your app. You just don’t have to do what a team of people or some committee is deciding. Again, back when I was consulting, it seemed like there were always five people that had to be notified of making any type of decision. So we’d go on to do something what I consider like an innovative or a cool approach to doing something.

[13:28] By the time you get to all these people who just want to keep their jobs and really want to do the same thing, then they’d say well we’ve been doing it this way forever and you’re basically just – you do more or I wind up doing just more boring stuff. that wasn’t not only not creative but I actually think it wasn’t as good a way to solve the problem. And so if you’re able to control that direction, I think like job satisfaction goes up because you’re just able to build something that’s more interesting to you that you can be more proud of.

[13:56] Mike: The biggest pro that you can take away from a product company is that you can take time off and customers generally don’t notice this especially if you have already built your marketing funnels and your sales funnels. And you have most of the product pipeline automated customer support has to be dealt with in some way, shape or form.

[14:12] But that again is something that you could potentially outsource as opposed to when you’re doing services and providing services, if you take off for three weeks, the customer’s probably going to notice and they are not going to be happy about paying you for those three weeks. Whereas if they’re using a product that you’re making available from your website or you’ve already sold them, then they use that and whether you’re around or not, they’re still going to be able to use it and things should still work properly.

[14:37] Rob: Yeah, taking time off is way easier than when you’re consulting. In addition, your mobility tends to increase and your ability to work when you want even when you are working. So if you’re a night owl, you can work then. You can kind of wherever. With MicroConf Europe happens in October, I’m actually bringing my wife and my two kids and we’re going to be in Europe for a month.

[15:00] I’m going to do some work from there. I’m going to do maybe 1-2 hours a day to keep up on things but that’s a lot of flexibility that I really wouldn’t have if I was consulting. A lot of consultants have to be on site and even if you don’t have to be onsite you tend to have to work certain hours even if you’re working remotely so there’s definitely a lot of time and location independence that products can bring.

[15:23] Mike: And if you’re a services company you wouldn’t be able to put in one or two hours a day and still expect to be able to be compensated for the entire day or the entire week. It’s a completely different story. So let’s talk about some of the cons of running a software company. I think that most of these cons tend to be much more front loaded.

[15:44] So if you are starting up a software business and you’re just getting started, you don’t really have a full pipeline of sales. You haven’t really quite hit the product market fit. I feel like these problems are a lot more pervasive into people’s thinking. The first one is that your software tends to solve a very fixed problem.

[16:03] Again if your software solves just one problem but it does it really well for lots and lots of people, that’s great. But when you’re first getting started, you don’t have the revenue to be able to rely on it. So because it just solves a single problem, you’re looking at the services company saying man, I wish I could just turn this a little bit so I could use this in addition to maybe doing consulting and charge them extra for this and do more of a scope of work where you’re reliant on the product but you’re also bringing in your skills to solve the problems that the customer has.

[16:33] Rob: Maybe a sub point to this is since you do solve that fixed problem, if you get a couple of years down the line and your app has become mature and its really solving the problem well, you can find yourself not feeling as creative as you did before, maybe not being as interested in the work you’re doing. I think that you’re less likely to get bored if you’re doing services, if you are a consultant and I think product companies at a certain point when you hit a success level, they do become a little mundane.

[17:01] You have a lot of legacy code to maintain. There are certainly some drawbacks that you wouldn’t see with services companies in terms of it moving to new projects all the time because its often learning new technologies and really being challenged typically with Greenfield development.

[17:17] Mike: Another problem with product companies is it really takes time to hit scale and you’ll read about a lot of these product companies that feel like they come out nowhere but the reality is they’ve been at it for a very, very long time until they got to the point where you even heard about them. And suddenly they’re wildly successful because you didn’t hear about them until yesterday. Reality is most have been working at it for 3, 4, 8, 10 years before they really achieve that level of success that they are more well known by the general public.

[17:47] Rob: Yeah. We talk a lot about that 4-6 month timeframe just to get to launch which is kind of when the journey begins and I would say at least another 4-6 months to kind of learn about your customers and just learn about who gets value out of it and tweak. So now you’re 8-12 months is a reasonable estimate. That’s just about the time you can maybe start figuring yourself out and get to product market fit and actually start doing enough marketing to scale your business.

[18:13] So that’s on the low end. That’s when you’re just starting. And then if you nail everything, maybe it’s another 6-12 months after that, then things are really picking up. So it’s a multi year time frame to hit some that brings in as much as say a consulting firm even if you’re just a one person consultant could bring it on day one.

[18:31] Mike: The next major problem with a product company is there’s no statement of work that clearly tells you what the customer wants. So this is a problem for every product company. I almost don’t think that it is limited to the smaller ones or the ones that are just getting started. Even when you’re trying to make big changes or you’re trying to offer new things to the customers, it can be very challenging to figure out what those are even if you are talking to them because you’re not always on the same page with them. You’re not always using the same terminologies for customers.

[18:58] So it can be very, very difficult to figure out exactly what it is that they want and to be able to present it to them in a way that’s completely understandable such that they’ll look at and say yes that’s exactly what I was looking for, heres my credit card.

[19:10] Rob: Yeah. There is a challenge coming from both being just a software developer or as a like a developer who’s also a consultant is that coming into products is a different game since there isn’t someone there telling you what to do and how to do it. It’s a learned skill and it takes a lot of – there’s a bit of luck in it, of actually getting something that people want but there’s a lot more of talking to a large number of people rather than being able to just sit down with a client who’s writing a really big check and saying what do you want me to build? How should we build it? And working with them to do that, so that’s definitely one of the challenges of building products.

[19:42] Mike: the next problem that product companies usually run into is that when their customers are looking at the product that they’re selling, they are usually going through a lot of comparisons that you as a software vendor not probably to and you can’t talk your way around them because you’re not in those conversations. So you essentially have to build the marketing material on your website in such a way that it addresses those objections that the customer might have and is able to present them at the right times when the customer is making those evolutions.

[20:10] Because they’re going to be looking at not just your product but some other products as well and any of your competitors products, they’re going to take a look at those too. And they’re going to be evaluating pricing, they’re going to evaluate features and possibly even support. Maybe they’ll call up the competitor and find out how quickly their support gets involved. Or they’ll send emails, things like that.

[20:28] I’ve seen customers do this where they’ll – in order to figure out which vendor is the best vendor, they’ll send out emails and contact their support before they actually follow through with the purchase in order to figure out which ones are going to be the better vendor for them moving forward. Sometimes it’s not all about the products. It’s not all about the features. It’s about the support that you provide. And if you’re not providing that timely support, they’re going to walk.

[20:50] Rob: It’s hard to sell a product when you’re not talking to them face to face or when you’re not involved in the conversation that’s going on in their head and that is definitely one of the drawbacks of running products the way that we do like doing the more low touch scalable model you really need to know you customers well and you didn’t know how they think about your product because your copy everywhere will find your website, and your emails, just anywhere they see it, in your app, your help, everything has to be perfectly honed because as soon as you lose someone, you don’t have a chance of explaining something twice. As soon as you lose someone, it’s just so easy for them to wander off and try a competitor.

[21:29] Mike: I think the last major obstacle that product companies have is growing monthly revenue is extremely hard. And although you’re running a SAAS company is really the kind of Holy Grail of software companies, it is notoriously difficult and if you doubted it in any way, shape or form goes take a look at Gail Goodman’s talk from the business software from last year about the long slow SAAS ramp of death. And it’s an hour long but it’s very good. Watch that and you’ll see just how difficult it was for constant contact to get to where they are. And although they’re wildly successful, it was not an easy road.

[22:06] Rob: It can be kind of a crap shoot. We know that there are ways to improve your odds but consulting, you tend to go sell a project and the odds are good that you’re going to get paid, you’re going to get paid well. You’re going to know in a few weeks if you’re not going to get paid. Whereas building a product, you can spend months, years toiling away and still not have success. Its way easier to fail when building a product than it is when you’re just consulting one on one with folks or even starting a small consulting firm.

[22:35] Mike: So now that we’ve talked a lot about the different pros and cons of running a product company, let’s talk about services companies and what sort of things they bring to the table. With a services company, you’re essentially selling consulting services. It can be anything from custom programming to systems management. It can essentially even be as little as outsourced systems administration for example.

[22:56] I mean if somebody could pay you to go to their website everyday and do the same thing day in and day out and essentially what you’re providing them is a service that you have to manually go in and you have to execute them. But you’re really relying on human resources at that point to execute on whatever those tasks are.

[23:14] One of the biggest pros of having a services company is that you typically charge more per customer. And in fact you tend to charge exponentially more per customer. And the reason for that is because everyone knows that when you’re buying professional services, it doesn’t matter who you’re buying it from, there is a human on the other end of that who has to deliver those professional services and that human is going to be expensive in terms of what it cost to keep them employed and all the different benefits that go along with it.

[23:41] There’s an expectation that the customer has that they’re going to generally pay more for that than they would if there was just a pre-packaged off the shelf solution that they could buy, that would execute that process.

[23:53] Rob: The nice part about this is you can actually have a pretty low traffic source, something like even a blog that just gets mildly popular. If you get one lead a month, one consulting leads a month that you’re able to close or one every 2-3 months, you can make a full time living from that. I actually back in the early days, software by Rob where I was one more about coding and that kind of stuff, I would get 1 or 2 inquires a month for consulting services and that was it.

[24:23] Some of them were for $50,000 and $100,000 projects. I didn’t need many of those to kind of fill out my year. Whereas when you’re trying to sell a product for a couple hundred dollars or $20 a month, you just need so much more volume. There’s just a bigger challenge there.

[24:39] Mike: Another nice thing about running a services company is that in some ways it can be easier to avoid working with problem customers. The way you can take a problem customer that you have and you can essentially push them out is to either charge more or fire them. If all of your revenue or the vast majority of your revenue comes from 1 or 2 customers, it could be very difficult to fire that customer but you can always go to them and start charging them more.

[25:02] And essentially what you’re doing is you are justifying the pain that it takes you to deal with them by charging them more. That’s one strategy that you can use to essentially deal with some of these problem customers. And it doesn’t make the problem go away. It just makes it more palatable.

[25:16] Rob: Yeah. With my experience, I actually find it easier with products to not work with problem customers. They’re just easier to fire, to let go off, because the revenue is such a small percentage. But I will say that I found there are a lot more problem customers. A lot of people paying us $20 a month have higher expectations of what we should be doing than the people who used to pay me $20,000 a month for consulting. It’s pretty funny.

[25:42] Mike: Yeah, I was talking more in terms of avoiding working with problem customers like you can tell when you’re talking to somebody when you’re trying to work through the terms or the scope of work or something like that. You can tell when you’re talking to somebody whether they’re going to be a problem customer. And it’s usually fairly obvious. There are a lot of red flags that people send up.

[26:00] You can just tell sometimes that somebody’s going to be a problem customer and then you can just say oh well, other things have come up. Versus – I think that’s a different position than if you are already working with somebody and then they essentially turn into a problem customer or they already were and you just didn’t notice.

[26:16] The next pro for a service company is that it’s easier to customize your service offering on a per customer basis. One of the nice things about running a service companies is if you have a standard set of things that you’re doing for a customer, you can pre-package your service offerings as if they were product.

[26:30] And that allows you some flexibility, allows you to do a lot more standard marketing through SCO and a lot of things that you would do for a product company. And you can essentially have this off the shelf package that somebody can buy and they know what they’re getting. You’ve already essentially laid it out for them but in addition to that, if there are things that somebody wants that aren’t in there, you can customize that for them and say hey, you know what, I know that we said we would do these 17 things but you’ve expressed interest in these four other things that our service offering doesn’t do, I‘m willing to do those and this is how much extra it’s going to cost.

[27:06] Versus if you’re selling an off the shelf product, you’re not involved in those conversations. It’s difficult to say oh well we can also do that for you or we can add those into the product and its gonna take an extra amount of time. You’re not involved in those conversations; it’s difficult to let them know that.

[27:22] The last pro for services is that people understand paying for services. They get that if they’re buying consultant services for software development, they’re paying for a software developer to go and build software for them. When they’re paying for a product especially something like a SAS application or even something that goes into a database and documents it. It can be very difficult for somebody to get a sense of how much value is this providing to me, how much value is this providing to the business? Is this price that I’m looking at paying justified? What does the pricing that the competitor is charging?

[27:57] And they’ll go and try and figure out those things but it’s still very difficult for most people to understand them. And that’s why when you go to some of the different product companies websites and they’re able to lay out all of the different value propositions for the software that they’re providing. Those are the ones that tend to do really well versus the ones that don’t really have those comparisons and its difficult for them to essentially justify their own existence.

[28:22] Rob: And I think especially if you’re dealing with more consumer oriented markets like the mobile app market. The pricing there has just been devastated by the app store specifically apple’s launch of the ios app store. So that people expect to pay $1 or $5 per software now. And I’ve heard from some developers I know that people are paying 99 cents for something they’d be super demanding about like specific features they want built and they would actually like basically try to extort them or blackmail them by saying I’ve going to leave you a one star review unless you do this.

[28:57] Its 99 cents like it’s crazy. Whereas most people pay for someone for some service at some point whether its lawn person or someone to come do your plumbing or your mechanic or something. So you’re right, it is just a little more palatable even in the consumer space for doing that and then definitely any type of B to B situation, people know the cost of developers and that kind of stuff. So there’s going to be so much more flexibility with pricing and then you’re sitting on a five figure bill in front of someone makes a lot more sense if they’re actually getting a specific human being to do something rather than just having an off the shelf software.

[29:33] Mike: So now that we talked about some of the pros of a service company, let’s talk about the cons. I think there are a lot of them who kind of filtered out the list a little bit. One of the first things is if a customer asks for something that can be done you usually end up doing it even if you don’t want to. The primary reason for this is they’re footing the bill.

[29:51] So if the customer puts their foot down and says hey I really want this, then you generally have to do it because you’ve agreed to work for them for whatever the amount is per hour per week and they’re basically calling the shots or making the rules and they’re saying I want this done and this is how much I’m paying you for it.

[30:07] And a lot of times, if you’re under some sort of a contract like that, you really don’t have a choice. I mean you really need to go through and get those done versus a software company where you’re selling off the shelf stuff you can essentially tell the customer look, that’s not in our roadmap or it’s not going to be useful to other people. It’s not something that we’re going to follow-through and do because we never committed to doing that. It was never part of the long term goal or the current implementation of the product.

[30:29] Rob: Yeah. When you’re building a product like I said before, you just have a lot more creative control and when you’re working for someone as a consultant, you need to be a little bit political about things. You often need to be very diplomatic. And sometimes that works and sometimes it doesn’t and so like you said, sometimes you wind up doing things you don’t really want to do but maybe you can’t. You just kind of can’t say no because they are the client after all.

[30:51] Mike: The next major downside to a services company is that cutting costs generally mean firing people. I’ve had to go through this before and its absolutely awful. And it’s not so say that’s going to happen with every single consulting company or even most of them. You can certainly structure the business in such a way that you’re hiring subcontractors yourself and at that point those people are responsible for their own salaries and you don’t have to worry about it.

[31:17] But the reality is you do have to worry about it because if you’re not paying them, they’re going to go elsewhere and you’re going to lose them to either competitors or they’re just going to go off on their own and you’re not going to have access to those resources. You really want to be able to provide the same resources to people over and over again as if you were a product company even though you’re not because you want at least some form of consistency between one offering and the next. You want to be able to leverage the feedback from one customer to help you land the next engagement.

[31:44] Rob: Yeah. I think the other part of this is I found my revenue when I was consulting to be fairly erratic. If you have long term arrangements, obviously that’s different but even with some of the long term gigs I had, they would end abruptly and then I didn’t have other relationships so I’ve kind of scrambled to find other people. And since you only have one client or two clients often that are paying, such a big percentage of your revenue, it does make it more of a challenge than if you have some type of recurring revenue with a product or even if you have one time sales from a product, those, they do tend to be what I found a bit more stable than consulting income.

[32:19] Mike: I also think in general if you take aloof at services companies versus product companies, I think services companies tend to have lower margins than product companies. And part of the reason for that is as we said before, as part of the pros of having a services company, people understand what they’re paying for. They understand paying for somebody’s time. And the problem with that is they also know how much that person’s time is worth so it can be very difficult to charge exurban amounts of money for spending an hour or three hours with somebody unless you’re able to justify that with a solid marketing value and proposition.

[32:52] Next, if you or your employees are not working as a services company, you’re generally losing money. Also once you get to a certain scale as a services company you tend to have middle management. And because those middle managers are not actively working for customers, they’re essentially managing the people underneath them. They’re not contributing to your bottom-line.

[33:11] So especially you have a lot of additional overhead there anytime you bring in middle management and then in addition if you don’t keep those people busy and even if it’s just yourself, if you’re not working as a consultant, you’re generally losing money. Using a subcontractor will shift the overheard burden to them but at the same time, using subcontractors cost more.

[33:31] But in some ways it feels like it hurts less when you’re using a subcontractor and you just don’t have them booked versus having to pay for an employee and they’re not booked for let’s say two weeks at a time and you have to pay for that person even though they’re not working and they’re not contributing any billable hours to the company.

[33:47] Music

[33:52] So I think that about wraps this episode up. I think one of the points Rob and I want to make is there are pros and cons to each different type of company and although we run software companies and that’s kind of the direction that we’re going it’s not necessarily that running a product company is the best decision for everybody. There are perfectly valid reasons to go down the road of building a services company.

[34:12] But I think it’s important to understand there are pros and cons to each of them and it’s not like going down the road of product companies is going to magically remove all of the problems that you could’ve ever possibly thought that would happen to you as running a services or a consulting company. In short, the grass is not always greener on the other side of the fence.

[34:28] If you have question for us, you can call it in to our voice mail number at 1-888-801-9690 or email it to us at question questions@startupsfortherestofus.com. Our theme music is an excerpt from “We’re Outta Control” by MoOt used under Creative Commons. You can subscribe to us in iTunes by searching for startups or via RSS at startupsfortherestofus.com where you’ll also find a full transcript of each episode. Thanks for listening. We’ll see you next time.

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One Response to “Episode 146 | Product Companies Vs. Service Companies”

  1. “…I think one of the points Rob and I want to make is there are pros and cons to each different type of company and…” running a software company is vastly better. 😀

    Running a software company is such a great deal that even non-developers try to figure out ways to get in on it. That high barrier to entry is what keeps the riff-raff out- it’s tough to get traction.

    What do you guys think about a mixed approach? Best of both worlds? Worst of both worlds? Specific obstacles/benefits?