TRC 038: Services income can be tempting. Should you take it?

Read time: 5 mins

The topic of whether it is OK to generate income from services rather than product sales, often comes up with startup founders of tech startups that I talk to.

The income on offer can be tempting, but what do investors think about it and what role should it play in scaling your startup?

Here is our breakdown that might help you find answer.

What is Services Income?

Services income is revenue generated from providing services rather than selling products (software or physical).

This can include consulting, maintenance, custom development, training, and support.

In essence, any activity where your expertise and time are the primary deliverables can be considered services income.

Examples of Services Income:

• Consulting: Offering strategic advice or specialised expertise to clients.
• Maintenance: Providing ongoing support and updates for a product or system.
• Custom Development: Creating tailored software solutions or modifications for clients.
• Training: Conducting workshops, webinars, or courses to educate clients on your products or industry-related topics.

Benefits of Services Income for Startups

1. Cash Flow: Sometimes, you just can’t argue with additional money in the bank - especially if it is the means for not running out of cash. This can be especially helpful in the early stages when product sales may be inconsistent.
2. Customer Relationships: Offering services deepens your relationship with customers, fostering loyalty and creating opportunities for upselling and cross-selling your products.
3. Market Validation: Services income can validate your market presence. They can be indicators of demand and relevance in your industry.
4. Bootstrapping Friendly: For startups that are bootstrapping, services income can be a crucial financial lifeline, reducing reliance on external funding.

Investor Perspectives on Services Income

Investors tend to have mixed feelings about services income.

• Scalability Concerns: Services often require proportional scaling of human resources, which can limit rapid growth. Venture investors prefer scalable models with exponential growth potential.
• Margin Pressures: Services typically have lower profit margins compared to product sales. Investors might be wary if services income significantly outweighs product revenue.
• Distraction Risk: There’s a concern that focusing too much on services can divert attention from developing and scaling your core product.

Most investors won’t worry about you offering some services if it helps you get a big early contract away with a major customer, or if it is material in getting you over a cashflow hump.

However, when examining where your revenue growth is coming from don’t expect to get a lot of credit for your services income in assessing performance.

It’s better to think of it as a cashflow bonus rather than something to rely on for selling your traction numbers.

Balancing Services and Product Income

To alleviate investor concerns, it’s vital to strike a balance:

• Hybrid Model: Use services income to support and enhance your product offerings. For instance, offer premium support or custom features as add-ons to your core product.
• Automate Services: Where possible, automate service delivery to reduce reliance on human resources and improve margins.
• Clear Roadmap: Demonstrate a clear plan for transitioning from services-heavy revenue to a scalable product-focused model.

While services income can be a double-edged sword, understanding how to leverage it effectively can provide your startup with much-needed cashflow and market validation.

By balancing services with a strong product strategy, you can address investor concerns about potential distractions.

And in the end, there is only one golden rule - don’t run out of cash.

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