Project Profitability: Formulas Explained

Lucija Bakić

September 27, 2024

A screenshot of a project management software for project profitability, showing a financial dashboard for a digital marketing strategy. The chart compares budgeting data, including billable time, scheduled time, and budget usage over multiple weeks. Detailed financial insights display revenue, costs, and profit percentages, with invoicing and time-tracking information below.

There are also many formulas you can use in a project profitability analysis.

This article discusses various project profitability calculations and how to optimize time tracking, cost rates, expenses, and overhead to improve your project financial management.

How to Calculate Project Profitability

In simple terms, project profitability is calculated by subtracting the project’s costs or expenses from its revenue.

These expenses can include materials, labor, facilities, and other related costs. Depending on which costs are factored in, the profitability analysis will vary.

Gross Profit vs Net Profit vs Profit Margin

 Here’s a quick overview of the three basic key performance indicators of profitability:

A screenshot of a project management software for project profitability, explaining the differences between gross profit, net profit, and profit margin. Gross profit is calculated by deducting direct costs from revenue, net profit deducts overhead costs, and profit margin is a percentage reflecting profitability.

Let’s explore each in more detail:

Gross Profit

Gross profit examines your project’s profitability by taking into account direct costs only (the costs associated with creating goods or delivering services).

So, for example, if revenue on a project is $10,000, but the cumulative costs of employee salaries amount to $4,000, this means gross profit is:

Gross profit = revenue – direct costs (salaries) = $6,000

Why calculate gross profit: to get an understanding into how your cost rates and employee allocation affect financial outcomes.

Net Profit

Net profit shows true profitability by including all project costs and project expenses, including overhead such as facility costs, costs of administrative staff, software licenses, and more.

In the same example as above, let’s say the cost of software licenses is $150 dollars, administrative salaries are $2,000, and rent costs are $3,000.

Net profit = gross profit – overhead costs = $850

Why calculate net profit: to understand the true profitability of your business, which supports informed decisions for future projects and sustainable operations.

Profit Margin

The profit margin shows your project profitability measures as a percentage. So, you can calculate your gross profit margin or net profit margin by dividing revenue and costs and multiplying them by 100:

Gross profit margin = revenue / direct costs x 100 = 60%

Net profit margin = gross profit / overhead costs x 100 = 8.5%

Why calculate profit margin: to benchmark your project margins against other internal projects and get detailed insights into your financial performance.

Project Profitability Metrics

There are also some additional metrics that can be used in project profitability analysis:

A screenshot of a project management software for project profitability, displaying key metrics such as rate of realization, return on investment, profitability index, and utilization. These metrics help assess profitability by examining billable hours, investment returns, future cash flows, and the ratio of hours worked to hours billed.

Here’s some additional information:

Rate of Realization (RR)

The rate of realization examines the amount of billable hours tracked vs actual hours billed, and is often used in the law industry.

This directly impacts your agency profitability — if many hours are being written off because of whatever reasons (for example, the quality of the work delivered is poor), this is a direct loss in project profitability and agency revenue.

According to community discussions, a realization rate of up to 90% is standard in most law companies:

All that said, an 80-90% realization rate on associate hours would be a very good realization for most projects. It is pretty standard to give clients a 10% rate discount right out of the gate, which drops the entire matter and everyone working on it to 90% realization before an hour even gets billed. Anything beyond that is most likely attributable to the usual things that result in routine write offs and are nothing to worry about.

Source: Reddit

Return on Investment (ROI)

The return on investment (ROI) is a popular project management metric which helps calculate the financial viability of various types of projects. The basic formula looks like this:

ROI = net profit / cost of investment x 100

However, there are various types of formulas that use the initial rate of investment as a variable in the calculation, such as rate realization analysis or payback period analysis.

You can learn more in our article on return on investment calculations.

Project Profitability Index (PI)

The project profitability index (PI), also known as the profit investment ratio, is connected with the return on investment (ROI) formula. It’s the ratio that shows how profitable your future project might be by taking into account future cash flows, with the time value of money.

So, let’s say you invest $10,000 into a project, and you want to examine future cash flows benefits for a period of four years.

If the benefits amount to $1000 per year, we need to take into account the diminishing value of money, which is calculated with the discount rate.

If the discount rate is 20%, then to get your financial gain for each year, you’ll need to divide the base benefit by 1.2 for year 1, then by 1.2 x 1.2 for year 2, and so on.

So, you’ll sum up these values, which we can call the present values of future cash flows.

$833 + $694 + $578 + $476 = $2,581

So, now to get back to the profitability index formula:

PI = NPV (net present value) / cost of initial investment

PI = $2,581 / $10,000 = 0.25

A profitability index of <1, such as the one above, means that your project is not profitable. Understanding project profitability of potential projects can help businesses make strategic decisions on which ones are best to take on.

Utilization

The utilization rate depicts productivity and effectiveness by analyzing time tracked on client projects.

Utilization = number of billable hours worked / total hours worked

Recommended utilization rates are usually up to 90%, though this varies depending on the seniority of your staff.

C-level staff and project managers are expected to have lower utilization due to a higher number of meetings and strategic tasks that are connected to the functioning of the agency.

In any case, anything higher than 90% might indicate that your employees are being overworked and are on the track to burnout.

On the other hand, low utilization rates might indicate issues with workflows, such as back-and-forth between team members or resource gaps that cause project delays.

Utilization directly impacts financial performance, since more billable hours worked = more revenue.

What Is a Good Profit Margin? Industry Benchmarks

According to the profitability survey in the 2024 Digital Agency Industry Report by Promethean Research, here are the most relevant benchmarks on digital agency profitability:

  • Studio sized agencies (less than 10 FTE) are typically the most profitable
  • Small agencies (10-24 FTE) have an average profit margin of 15%
  • Agencies above 25 FTEs have an average of 13% project profitability

When it comes to the most significant agency expenses, these include employee costs (salaries and benefits), and in the second place are app and tool costs which make up 3.7% of spent revenue in an average agency.

The Importance of Time Tracking

For professional services organizations, managing your time tracking is crucial for getting accurate insights into your project budgets.

This goes for projects billed on an hourly rate (time & materials), and any other types of agency pricing models, such as fixed-price or recurring projects.

Accurate billable hours tracking gives agencies reliable insights into how much time was spent on each task.

This improves project estimation and resource allocation, supports transparency and project scope management, and ensures good project performance.

A screenshot of a project management software for project profitability, showing a task list for a motion graphics project. The interface includes to-do items, status updates, assignee details, due dates, and a timer for tracking work. The project status is marked as "Working," and the task is assigned to Carmen Williamson with a deadline of May 5, 2024.


With Productive, you can track hours directly from tasks with a built-in timer

For this, promoting an agency culture where time tracking is seen as a positive rather than a negative is important.

Another crucial aspect is to have a time tracking tool which handles all of your data. One consideration is that this tool should ideally be employee-friendly — easy to track data in and non-invasive.

The second big benefit is having a single system which handles your time, budgeting and billing:

Before Productive, we used multiple systems. Tracking time was really important for us since we used it for payroll. At the end of the month, gathering all the data from three different tools would be a nightmare. We needed a tool that would unify all of our data.

Mark Cleaver,
Head of Operations at Steamroller Studios

Managing Project Profit With Productive

Productive is an all-in-one software for agency management, tailored specifically to support the end-to-end workflows of various types of agencies.

Its key features include project and task management, resource management, budgeting and billing, and reporting.

Manage Project Profitability With Productive

Switch from multiple tools and spreadsheets to a single all-on-one solution for project and financial management.

Book a demo

Here’s how you can use Productive to monitor and visualize your project profit:

1. Managing Labor Costs

First, you’ll need to manage the costs of your human resources.

With Productive, you can set up cost rates for all of your employees and contracts by defining the amount, currency, and number of hours worked per day.

A screenshot of a project management software for project profitability, displaying the cost rates for Charles Blake, Managing Director at Web Geniuses. The dashboard shows an annual cost of $125,000, with a current hourly cost of $80.37 and a total capacity of 1,986.6 hours for the year. The cost rate graph shows changes over time, and overhead costs are turned on.


View cost rate information across each individual employee

You can also set up another cost rate that starts at a specific point in time to account for pay raises.

Another useful thing you can manage with Productive are custom cost rates. For example, a contract may bill a certain amount of money for one project, but a different rate for another.

Custom cost rates provide you with the flexibility to manage these cases.

You can also assign a holiday calendar to each of your employees, which will mark holidays in various views across the platform, including your resource plan.

A screenshot of a project management software for project profitability, showing a "Request time off" interface for December 2024. The calendar highlights selected vacation days from December 10 to December 12, with 3 available days being requested. A note section is included, and the request is pending approval.


Manage vacation requests and approvals with Productive’s Time Off Management

2. Caculating Overhead and Expenses

Then, you’ll want to account for various operational costs and project expenses.

Starting with overhead, Productive calculates your overhead costs per hour. This means that you can get a better overview of your true profitability, as overhead will be spread equally across all of your projects.

Your overhead calculations include:

  • Your facility cost (utilities, software licenses, rent, etc.)
  • Your internal costs (internal project hours and expenses, paid time off, etc.)
A screenshot of a project management software for project profitability, detailing the overhead costs for April 2024. The breakdown includes a facility cost of €76.32 per hour, an internal cost of €1,220.74 per hour, and a total overhead cost of €1,297.06 per hour. Additional costs like time off (€7,994.59), overtime (€0.00), and undertime (€25,886.17) are also displayed.


Manage your indirect costs across multiple categories

You can turn various categories of costs on and off to customize your final overhead calculation.

In Productive, you can also account for additional costs related to budgets and sales deals.

Expenses can be categorized by clients, you can track details such as amount, data, and description, and bill them to clients if necessary.

A screenshot of a project management software for project profitability, displaying a new expenses report with seven entries. The table outlines service types, descriptions, dates, total costs, and billable amounts, including projects like architecture, website design, and administrative work. Payment statuses vary, with some marked as paid, unpaid, or requested for reimbursement. The total cost is €32,127.10, with €31,909.14 billable.


Get a comprehensive overview of your expenses with Productive’s Reporting

You can also integrate Purchase Orders with budgets and expenses for a simplified purchasing process and accurate expense tracking.

There’s an integrated Xero integration for syncing your expenses with the accounting software.

A screenshot of a project management software for project profitability, showing a purchase order for a music deal. The order is fully received, with a total of $250 for additional recording equipment, billed on June 17, 2024. The interface indicates 100% received, with no remaining balance to be received.


Manage your external expenses

3. Monitoring Revenue and Profit in Real-Time

When its time to monitor your revenue and profit, you can do this with Productive’s Budgeting and Profitability charts.

The Budgeting tab depicts the amount of budget burned and the budget remaining based on hours tracked and billable rates.

A screenshot of a project management software for project profitability, showing the budgeting view of an ads campaign for HelixCo. The chart displays billable time, scheduled time, budget total, and budget usage from April to December 2024. The graph highlights forecasted budget use, comparing it with the actual budget used over time. The selected month is November 2024, with detailed data on time and budget tracking.


Monitor your budgeting performance metrics

By switching to the Profitability tab, you can get detailed insights into a project’s profitability based on time tracked and employee cost rates.

The basic profitability chart shows your gross profit (excluding overhead costs); to see your net profit, you can enable overhead in these calculations.

A screenshot of a project management software for project profitability, displaying the profitability dashboard of an ads campaign for HelixCo. The chart tracks worked time, scheduled time, revenue, and profit from April to December 2024. Below, detailed metrics show estimated vs. worked time, revenue ($4,570), cost ($1,982.75), and profit (57%) as of July 31, 2024. Invoicing data indicates $730 for invoicing, with no amount yet invoiced.


Maintain healthy project profitability and project revenue

Both of these charts update in real time, so you can get real time insights into these key metrics. Furthermore, you can turn on Forecasting to predict what will happen to your financial health based on your resource scheduling.

Accurate forecasting helps project managers achieve financial goals and make informed business decisions based on reliable and timely data.

It can also help you manage risk factors such as scope creep and budget overruns.

4. Reporting Key Metrics

Finally, you can use Productive’s Reporting to generate various types of insights on your projects.

Reporting pulls data from all your agency workflows, including time tracking, resource scheduling, sales deals, actual costs and operational expenses, billing, and more.

You can use one of the 50+ reporting templates, or build your own from scratch by customizing your fields, visualization, data grouping, and even creating custom formulas.

A screenshot of a project management software for project profitability, showing a project progress report with weekly data. The bar chart compares scheduled time (in yellow) with worked time (in green) for weeks 23 to 29. Below, a table summarizes scheduled time, worked time, delta time, recognized revenue ($865,900.51), recognized profit ($835,122.23), and cost ($30,778.28) across each week. The report is grouped by date in weekly intervals.


Manage simple and complex projects with accurate data

Reports can be shared by creating specific dashboards and adding them with widgets, or by scheduling to have them sent with Productive’s Pulse.

I also like that I can build dashboards, reports, and pulses that keep all the essential data at your fingertips. Before Productive, I think I spent around a day every month putting together timesheets and utilization reports.

Rick Donohoe,
Operation Director at Reading Room

Final Thoughts on Delivering Profitable Projects

In conclusion, delivering profitable projects is what your agency needs to ensure continuous growth. It provides you with revenue to reinvest in new opportunities and development.

To ensure that your individual projects are performing well, you can monitor various financial metrics, such as gross and net profit, return on investment (ROI), and the profitability index.

Additionally, managing your time tracking, labor costs, and overhead with the right project management software helps accurately assess project performance for financial success.

Tools like Productive offer an integration solution for ensuring financial sustainability with accurate forecasting, real-time budgeting, resource planning, and more.

You can book a demo with Productive today to learn more.

Connect With Agency Peers

Access agency-related Slack channels, exchange business insights, and join in on members-only live sessions.

Lucija Bakić

Content Specialist

Related articles