Pricing for Profit
Originally published: 04.01.16 by Ruth King
If you don't price to earn a profit, the more revenue you generate the deeper in the hole you will get. Many contractors dig themselves a hole simply by trying to price by the gross margin method, or even worse, to match the prices of their competitors.
This month I give you the steps to profitable pricing. It builds on the article I wrote earlier this year (Why Net Profit per Hour is a Better Way to Price).
Once you know the net profit per hour you want to earn, the next step is to determine the overhead cost per hour for each type of work you perform service overhead per hour will usually be different than replacement, new construction, etc.
Similar to net profit per hour, overhead cost per hour is total overhead cost divided by billable hours. Generally, you calculate this number once or twice per year. If you try to calculate it every month, your overhead cost per hour will vary widely, depending on how busy or slow your company revenues are.
All pricing for profit follows the profit and loss statement — backwards.
To Calculate Service Rates
Net profit per hour plus overhead cost per hour equals gross profit per hour. Also, gross profit per hour plus the highest technician hourly wage equals your maintenance customer service rate.
To get your regular customer service rate, divide the maintenance customer service rate by 0.85 for 15 percent maintenance discounts and 0.90 for 10 percent maintenance discounts.
Remember to use the highest service technician hourly wage. If you use an average, you will lose money on your highest paid technicians and only earn a profit on your lower paid technicians.
If you're pricing flat rate service prices, remember to either divide the maintenance customer rate by the billable hour percentage or, my preference, add an additional 30 minutes for travel time to the flat rate price.
Using my preference, the maintenance flat rate in your flat rate books will be 1.5 times your maintenance customer service rate to include a 30-minute travel time.
To Calculate Maintenance Agreement Rates
Maintenance agreements must at least break even. My preference is to include a $5 net profit per hour.
- Estimate the total number of hours (including travel time to perform the maintenance).
- Add the material costs.
- Add the SPIFF cost.
- Assume the following:
- It takes three hours to complete a heating and cooling check.
- Technician wage is $20 per hour.
- Overhead cost per hour is $30 per hour.
- Net profit per hour is $5 per hour
- Material cost is $5
- SPIFF cost is $10
To Calculate Replacement Rates
Follow the same process.
- Determine the net profit per hour you want to earn.
- Determine the overhead cost per hour.
- Determine the total number of labor hours.
- Determine the labor wages.
- Determine the material/equipment costs.
- Determine the sub/permit/warranty/agreement costs.
- Take this total and divide by one minus the sales person commission rate.
- Take this total and divide by one minus the financing rates.
Assume the following:
- Job takes 16 total hours — one person at $20 per hour; one person at $15 per hour — each person has 8 hours.
- Desired Net profit per hour is $150 per hour.
- Overhead cost per hour is $25 per hour.
- Materials/Equipment cost is $1,000.
- Sub/permit/warranty/agreement cost is $300.
- Sales person commission is 10 percent.
- Financing charges are 3 percent.
Using this simple pricing method, you will be pricing for profit. Just make sure your field employees do the work in the hours you estimate.
Ruth King is president of HVAC Channel TV and holds a Class II (unrestricted) contractors license in Georgia. She has more than 25 years of experience in the HVACR industry, working with contractors, distributors and manufacturers to help grow their companies and make them profitable. Contact her at email@example.com or call 770-729-0258.