By Sal Alfano. Repair and replacement costs can take a bite out of your operating budget. Include these costs in general overhead to make sure they're covered by your markup on every job.
Vehicles and heavy equipment. For these big-ticket items, use historical data to estimate regular maintenance and repair costs. Also add gas, insurance, registration, and other costs to general overhead. Your depreciation schedule should tell you how much money to budget each year to replace your company vehicle, but with lots of zero-percent financing still available, it probably makes sense to keep your cash and borrow the money when the time comes. Keep in mind, however, that unless you include a percentage of the cost of a new vehicle in your budget each year, you'll take a big hit in net profit the year you actually make the purchase.
Hand tools, bits, and blades. For Jack Philbin, president of Philbin Construction and Remodeling in Chicago, the tool allocation has changed over the years. "I used to supply all the tools to employees, but not any more," says Philbin, who does about $1 million in volume annually. "I still supply power-miter boxes, table saws, compressors, tile saws, metal brakes, and other big tools, but each carpenter is responsible for his own power tools, including a recip saw." Philbin's crews also pay to repair their tools, unless the damage was due to negligence of a co-worker, but Philbin pays to sharpen or replace bits and blades.
Office equipment. Philbin doesn't budget for office equipment. His fax machines don't wear out -- he's only ever had two--and computers are so cheap, he doesn't see the need to build up a big surplus of money to replace them. When the time comes, he just picks up the cost of a new computer as an office expense. A photocopy machine, however, can be a bit more expensive to purchase and repair. Use historical data to budget for regular expenses, such as cartridges and repairs, and set aside some cash each year so you'll have the money available when it's time to replace or upgrade your current machine. If you make lots of copies, it might be more economical to lease a machine and consider the monthly payments as an operating expense.
There's no place on the balance sheet for these amounts--the money just accumulates in the cash account. To keep things straight, Philbin has a separate interest-bearing checking account where he deposits money budgeted for replacement purchases. (This is also where he keeps customer deposits.) Items that are expensed show up on his Profit and Loss Statement.
"The key for all of this stuff is being able to account for it," Philbin says. "Because if you don't, it comes out of your net profit. If you don't price for it on the front end, it's going to get you on the back end." In Philbin's case, repair and replacement costs run between 1.5% and 2% of volume. At his size, that's between $15,000 and $20,000 per year--money he'd just as soon put in his pocket.