On a good day, pricing is difficult to master — part art, part science. An economic downturn can throw more than a wrench into the works. Take a recent Money magazine article, “Home Renovations on Sale,” which suggests that the tight market for jobs and lower prices on many building materials make it a good time for consumers to negotiate better prices with remodelers. “Overall,” writes Donna Rosato, “experts say you can expect to save at least 10% on the cost of renovation and possibly a lot more depending on where you live and the project you choose.” This added pressure on remodelers — along with lack of knowledge of estimating, job costing, and markup — can lead to fatal mistakes.
Not Simple Math
What goes into pricing? “It’s different for every company. There are so many elements,” says Diane Gilson, president of Info Plus Accounting, based in Ann Arbor, Mich. But the main thing is to know your costs. “People price according to the competition or because they know someone,” Gilson says. “You have to know your true costs to determine what your price will be to yield what you need to survive, which is merely breaking even. But if you end up with zero on the bottom line, you’ve bought yourself a job. As a company owner, you need to have profit to show for your risk.”
Correct pricing is tied to correctly estimating the costs of both labor and materials. Gilson uses the example of employee salaries: “What does it really cost to have someone working for you?” Maybe his or her compensation is $20 per hour. But what about workers’ compensation, benefits, bonuses, insurances, vehicle and phone use? The employee may actually be costing you upward of $35 per hour.
“You need to mark up accordingly so that you can get what you need on the bottom line.” (Click here to see a demo version of the spreadsheet-based labor burden calculator that Gilson’s company sells. Or use this simple labor burden calculator.)
To earn that amount plus profit means you have to add on to or “mark up” your costs. But many remodeling company owners, especially those new to the business world, don’t understand the difference between markup (gross profit divided by cost of goods sold) and margin (gross profit divided by sales).
When Anthony Slabaugh, owner of AMS Construction, in Stow, Ohio, made the transition from carpenter to remodeling business owner, he just upped his hourly rate. “I thought I’d keep doing that. But I had no information, no knowledge of what I should be charging,” he says. “In my mind, I thought that should be enough. I had no education in business.”
Slabaugh realized that he needed to make more money to survive. “I read Michael Stone’s book Markup & Profit and learned how to figure out my overhead for the year. And based on a projection of what I thought we’d make that year, we could establish a markup,” he says. “It worked for me. I reviewed it quarterly and actually increased it before the end of the year.” Slabaugh also credits industry publications and conferences with helping him get to a point where he is pricing correctly and, finally, after 10 years in business, is making a profit.
“During a time when our company was expanding, we reviewed our QuickBooks job reports and noted our best jobs had 33% left over at job completion. We mistakenly thought this would cover overhead and profit,” says Tim Cook, owner of Envi Construction, in Portland, Ore., who decided last year to get coaching for estimating and production. Striving for an 8% to 10% net profit, Cook realized that he couldn’t get there (his profit) from here (his markup). He recently joined Business Networks, a peer review group, to help him understand his numbers.
Using a Business Networks spreadsheet, Cook now lists all the elements of overhead, including labor burden, to get a picture of his true break-even point and how his expenses affect his volume. “We may have been underselling for years,” he says.