When business owners want to increase the bottom line, they usually try to increase sales. But is that always the best way? Consider this question: Will you increase your bottom line faster by selling 10% more or by reducing your CGS (cost of goods sold -- labor, materials, and subcontractor services) by 4%? Reducing costs is the correct answer, and to prove it, compare two income statements for a $2 million company. In the first, sales of $2 million minus CGS of $1.2 million generate a gross profit of $800,000. With overhead of $700,000 and $10,000 in taxes, the net profit is $70,000, or 3.5%.
In the second statement, sales increase from $2 million to $2.2 million. CGS rises from $1.2 million to $1.32 million. Gross profit increases to $880,000, and overhead, from $700,000 to $770,000. After taxes, the result is a net profit of $77,000. Or 3.5%.
Now imagine that you sell the original amount -- $2 million -- but reduce CGS by $48,000 to $1.152 million. This creates a gross profit of $848,000 and a net profit of $103,600. Net profit goes from 3.5% to 5.2%.
It costs money to sell more, but it's not as expensive to learn how to work more efficiently. If you were to increase sales enough to realize the higher net profit of $103,600, you'd have to sell an additional $960,000.
How to do it
For the past year and a half, the team at Mark Troyer Remodeling and I have been putting programs and systems in place to reduce the cost of goods sold. Here are some steps we've implemented or have in the works:
5S program. A 5S program focuses on organization, cleanliness, and standardization to improve profitability, efficiency, service, and safety. The 5 S's are Sort, Set-in-Order, Shine, Standardize, and Sustain.
Better systems and processes. Streamline your systems and processes and use them to track budgeted project hours. Mark Troyer Remodeling is in the process of implementing new accounting and estimating software to more closely monitor project profitability.
Hiring plan. If you hire someone who's not a good fit or doesn't have the experience level you need, not only do you lose money on their lack of productivity but you incur costs for replacing them.
Training. Mark Troyer Remodeling uses biweekly, half-hour "toolbelt" meetings to train employees on technical skills, soft skills like customer service, and topics concerning personal issues. This helps improve productivity, team building, and morale.
Incentive programs. Tie incentives to productivity and profitability for each project and hold the lead accountable.
Subcontractor performance programs. Track your subs' work -- on pricing, delays, reworks -- and reward them for a good job.
Revisit the basics. Qualify leads, implement and emphasize safety programs, and use a team approach for problem solving.
Start by focusing on one program or system at a time, beginning with what you feel would have the biggest impact. Shoot to reduce CGS by 2% using a mixture of the methods. You'll produce better profit margins and expose areas that need improvement. As you use these various programs and systems to reduce waste, you will also elevate the company's professionalism in the eyes of the employees and customers. That's a bottom line any company can benefit from. --John Scroggins is the business coach at Mark Troyer Remodeling, Plain City, Ohio. He is president of Harvest Group Consulting.