Ustwo Rethinks the Agency Business Model

In an era of lightning-fast disruption and innovation, savvy creative agencies have started selling a diversified selection of products, rather than relying on a single revenue stream, typically design consulting, to earn their livelihood. This approach requires establishing multiple legs of a business to ensure that your agency has both active and passive revenue streams coming from a variety of sources. Among those leading this new way of thinking is ustwo, a digital product studio with offices in London, New York, Malmö, and Sydney.

By adding a direct-to-consumer product unit and a venture arm to its operation, ustwo has developed a strong defense against economic downturns that freeze client ad budgets, the fickle moods of brands, and hamster-wheel economics that require staffers to always be moving in order to make money. Ustwo’s sales triangle is full of big-name brands and commercial hits. It counts Google as a design consultancy client via its work on Google Cardboard. Meanwhile, it developed the gaming apps Monument Valley (26.1 million downloads) and PAUSE (150,000 downloads) in-house. The company has also exchanged its design-work hours for equity in the start-ups Wayfindr, an app that helps visually impaired people travel independently, and Dice, a live-music, no-fee booking platform.

Ninety Nine U recently spoke with ustwo co-owner Jules Ehrhardt at the brand’s office near Wall Street. There he discussed why designers must think about their work in terms of commerce and opened up ustwo’s playbook, sharing specifics on how they run their various sales channels.

Jules Ehrhardt photographed in Soho, New York City.

What problem did you encounter with the traditional business model of the design consultancy agency and how did you deal with it?      

The consultancy model is a good business that can be profitable, but it is risky being a small agency — one client leaving can kill you — and it is not really scalable. You’re at the whim of clients and of economies. If there is a downturn, the marketing and advertising budgets are the first to go, and that kills agencies. It’s like a hamster wheel. The challenge we are looking to overcome is how to use our skills to evolve the business model, which means making money from passive revenue streams, so we don’t always have to pedal to make money.

One change you’ve made is to expand your offerings within the design consultancy arm, so you now have the capability to do everything from coming up with the initial product designs to having your engineers build the product. Why have the full-spectrum component?

We’ve been known over the years as a design studio but we’ve also had a super hard-core engineering capability over the last seven years. We now call our design consulting “product design.” Otherwise we’re just a design studio producing a lot of paperwork in the abstract. Because until design touches the code, the user, and reality, you’re not going to have the feedback you need to improve and iterate the design.

For us, design and engineering have to work in tandem from day one of the project. Let’s say you’re doing a global hotel booking application. That requires three months of research and three months of design before you hand it to engineers. In those six months, you might have updated operating systems available in the market, and then what happens if a designer hands off a project to the engineers and leaves the company? What happens if the engineer has a question about design and the designer is no longer there? At ustwo, our design and engineering teams work together to deliver the research, the branding, the strategy, and the actual implementation of that solution — the complete solution. Otherwise the client has to go to a branding consultancy for the brand solution, then to a design agency. Then an engineering firm? The efficiency isn’t there.

The good thing about us having moved into the product design business is that brand product lifecycles are six months, a year, or even two years long, so companies don’t cut those budgets as readily — and they’re bigger than marketing and advertising budgets.

What led ustwo into making its own products and selling them directly to consumers?

The reason we started to build our own stuff was because we only had one client and that client wouldn’t let us tell the world that we worked with them, so we had no external voice. Matt [Miller], one of our cofounders, set his mind to us building our own stuff. We were there building apps right at the beginning of the iPhone. One of our earliest apps was called MouthOff — a cartoon game where you hold your phone in front of your face and speak into it, while the app’s mouth animates the sounds you make — and the conversations it started with investment banks were so bizarre and playful. I was at a major investment bank going through our deck, pitching them on something, and we got to our page for MouthOff and one of the bankers was like “Stop!” He got his phone out and I realized that on the 30th floor of this investment bank they’re doing MouthOff to each other.

Was building products initially a revenue or marketing play?

Principally, it was to market ourselves, but through the app store it became possible to make money off of it. However, there are a lot of corpses in the road on the way to Monument Valley. We call it “succailure” — failure on the way to success. We have spent hundreds of thousands of dollars on apps that have died, but that is part of the journey. We invested $2 or $3 million in Monument Valley, and it has made us $15 million and was featured on House of Cards, so it fulfilled the marketing and passive revenue stream pillars. And adding $15 million to your bottom line over a couple of years is good for business. 

 

How do you determine the budgets and sales goals of your direct-to-consumer products?

It has evolved. Years ago we started by literally making things we felt like, and that was fine. But the reality today is that to make anything of consequence you’re looking at an internal spend of $200,000 to $300,000. The goals are all over the place, like with our app PAUSE, which we did with a friend of ours who is a tai chi expert. That was not going to be the next Facebook, but it was good for us because it was written up by Time as one of the best apps of the year. I think that lots of agencies can design a product, but they don’t have the engineering to build a product. Of those that can, I don’t think many have, because it’s just hard. In another universe, Monument Valley could have been number one for only a few weeks and disappeared after everyone said they’re not going to pay $4.99 for an app.

At what point did you decide to take equity in companies, in exchange for the product design hours you worked for them?

The reason we looked at venture is that we’ve worked on products for major brands that have generated billions of dollars in revenue per year. And we had been charging our consultancy rate, which is a daily fee. That was a real turning point, because we can create products from design to engineering, from the first meeting to taking it to market as a fully functional product. Not many companies can do that. We realized we had to be trading that commodity differently, so revenue sharing or working with start-ups to take equity in return for our work, as well as helping to launch start-ups. We’re quite focused when it comes to our venture model. Our inclination now is to partner with VC’s to do the initial company partner filtering and then we can do our bit, the product, and then our partners will ultimately run with the venture and we will step back over time.

You’ve written about how ustwo works with, not for, its client partners. That mentality can easily feel clichéd. How can you have an equal relationship with someone who is paying you lots of money to work for them?

One important change is that we have ditched “visual” or “interactive” designer as terminology, and we now call everyone “product designers.” I know it’s just a label, but philosophically we don’t want anyone to absolve themselves of this wider responsibility. If you say “I’m just a visual designer” then you might allow yourself to just think in terms of visual design constraints, But the reality is that a product touches a human being and product designers are responsible for how the product will work and how humans respond to it. The product designer mentality is our effort to make designers more responsible for the result and part of the wider steps of designers getting a seat at the table with the executive group. Designers need to be able to explain to them how their designs will help with user acquisition and retention, things like that. Because a CFO is not going to want to hear about visual hierarchy.

To think like an executive, about money.

Yes. Designers can’t indulge in extreme abstractions anymore. That is the problem that design has; we’ve been indulged. Design is a beautiful thing because it’s art, but when it comes to product and customer experiences, it’s not just art.

What happens when you have a demanding client who offers you a lot of money? Do you still take the job? Why or why not?

Our ambition is always to establish a partner relationship rather than the antiquated client-vendor relationship. We tend to avoid companies who resolutely operate under the latter model, or those who we do not see as being able to make the shift. Healthy relationships are based on respect, honesty and commitment, which is what partnership means to us. That’s how you get through the inevitable hard times, and there will be hard times when you are building anything of consequence. We need to believe in and emotionally commit to the project goals and the combined “one team” we establish with our partner just as much as they do. As for “it’s too much money to not do it,” it kind of boils down to this: Minted or poor, dating an arsehole is always a poor life choice. We all know how it’s going to turn out. The sad fact is that people, at some level, allow themselves to be in abusive relationships. That is such a dangerous path to set down for an agency. I know of many agencies who have engaged in that compromise, and they are feeling the effects, ending up with well-paid but shit work and poor client relationships. That saps any studio’s life force.

We’ve ended multimillion dollar engagements because we did not believe the relationship or work was healthy for us.

 

Some agencies might argue that they have no choice but to accept a large sum of money, no matter how the clients behave. You’d argue otherwise?

Ultimately you always have a choice. You go into any relationship with all your heart, but still things can not work out. We’ve ended multimillion dollar engagements because we did not believe the relationship or work was healthy for us. We’ve taken a hit as a consequence, but it’s always worked out in the end. I believe that by prioritizing our people, we are fundamentally healthier and more committed to each other as a result.

At ustwo there is a very close connection between those that sell the work and those that deliver the work. In my commercial capacity, I would never sell my people down the river, nor would any of our commercial teams. When we evaluate projects, the department leads use a Web-based scoring system we developed to assess the viability of a project based on six factors: impact of the work, project revenue, growth potential, our capabilities to deliver, impact on our profile, and quality of collaboration. No one person can override the choice.

How have you set your design consultancy rates? 

Forecasting the effort required to create something is always tricky, especially when it it a complex problem with design, engineering, and a long timeline. A safe model is to get paid on time and material. We charge by the day, not by the hour, because the hour unit creates quite an unhealthy relationship between a creative and an engineer who think they are delivering a unit of time, when really they are delivering a product.

Design is a beautiful thing because it’s art, but when it comes to product and customer experiences, it’s not just art.

Do things like sales and market-testing factor into your idea generation process?

We don’t market test, but we prototype our consumer products around the company to test stuff out with lots of people. We’re not cynical enough to go, “What’s a big market? Smurfberries? Okay, let’s build a Smurfberries app.” If someone really cares about something, they will put in time on it over the weekends and in the evenings. They’re going to have to dedicate six months to it, almost pathologically — I don’t think if you don’t get pathological about it, it will be successful.

If someone is working on a potential consumer project, can they work on it at the office? Or do you encourage them to tinker with it outside of work? Why?

We encourage our people to develop ideas at ustwo, as well as outside of ustwo. If an ustwobie is working on something that could be brought to the world for us, or for themselves, then that can only be a good thing. Why suppress ambition? As long as people meet their responsibilities to their team, then as adults, they can plan their time accordingly and handle both. Their learnings are our learnings, and if one of those ideas became viable and its own entity, then nothing would make us happier than to see one of our own going out into the world and making a success of it.

We have numerous ustwobies who are running their own apps or small side businesses outside of their project work (see Saucedrop, Trick Shot, BlackApp). Some of ustwo’s most meaningful projects have come from invent time, such as Wayfindr. If people are going to want to do it anyway, it may as well be in the open so we can support each other. Over 300 ustwobies can make a pretty loud industry shout when launching something.

Something we’ve learned over the years is that if people are asking for permission or for studio time to work on an idea, then it’s probably not going to be a success. The urge to make “the thing” should be overwhelming and if it is not, then it is questionable whether there will be the drive to follow it through in the real world. Secondly we’ve moved away from just making “cool shit” (“Cool shit is bullshit,” as our cofounder Mills says). We are now being a lot more mature about evaluating the potential business model behind any internal project.”

What is your rule of thumb for when a creative agency should deem itself ready and able to invest in outside ventures?

You need to be able to afford to play this kind of roulette — and it is roulette, even though the odds are probably better at the roulette table. You need to be at a point where you can lose all of the money that you’ve invested in ventures and still be okay as a company. So a 20-person business is not going to be able to risk its entire cash flow to plop into a start-up during a seed round. There you’ve got a 1 in 100 chance of your investment returning any money, and that might take three to seven years — that will kill the 20-person business. I think your agency has to be pushing $5 million to $10 million in annual revenue. If you can invest $20,000 here or there, you can do some pre-seed round investing [an early stage investment, typically on an idea], but that’s not going to get you exponential returns.

How much cash should companies have on hand before they start investing?

First, a company needs to be able to pay competitive salaries and bonuses. Then they need a cash safety level. It’s great if you’ve got six months’ runway in an agency business, but realistically an agency might have two to three months of runway. We wouldn’t want to invest with under four months of cash runway [the amount a money a company has on hand to survive if it were to stop selling products]. The rules would be $5 million to $10 million (and above) in annual revenue, 20 percent profits, three to four months of safety cash, and then after that is what is left in the pot to play with. What we’ve realized is a challenge is that you can do a seed round investment [an early round investment done in the pre-revenue stage] that you might want to follow on, and then you need more money to do that. So I think you will see more agencies build venture funds. What is the point in investing in seed or series A [the first round of significant funding, typically in the mid six-figure to low seven-figure range] and not being able to follow on? Your stake gets diluted and you lose the benefit.

When you have a blockbuster hit like Monument Valley, what do you do with the unexpected extra cash?

We share profits. This year we will share 30 percent of the profits from the studio business. From our ustwo ventures arm, which has the games company and our portfolio of five start-up investments, should there be a return on the start-ups or a dividend from the games company, we have a percentage allocation to share, 20 percent, distributed across the whole company.

So everyone at ustwo has skin in the game and a hand in the spoils.

That creates connective tissue in the efforts between venture and gaming. As an employee, the payout is not going to replicate you going to a start-up and getting 0.5 percent of the company, but the odds of that are long. So you have a blend of a relatively safe consultancy business plus the potential upside of the venture arm.

Most companies are tight-lipped about their finances, yet you’re freely sharing numbers and figures. Why?

We share everything. You can go to our company’s headquarters in England and read our annual report. We have even shared when our own apps were a catastrophe, when the downloads were in the tens. We do this because we want our employees to learn.