Do You Know What You Do Not Know?

By Tom Grandy, Founder of Grandy & Associates

Have you ever found yourself in a conversation with other contractors only to discover that you are totally clueless in terms of what they are talking about?  That is NOT an indication that you are ignorant in any way, it’s simply an area that you are unfamiliar with.  Bottom line, we often don’t know what we don’t know.

Having reflected on 35+ years of working with contractors I have discovered six general areas where many contactors simply don’t know what they don’t know.  For this article we are doing to take a bird’s eye view of those six areas.  If any are unfamiliar to you, I would urge you to research the topic a bit.  Why?  It will affect your overall profitability.

  • Labor Pricing needs to be calculated based on Cash Flow Dollars, NOT Accounting Dollars

There are huge differences between cash flow and accounting.  The bottom line is that cash flow deals with the real dollars that flow into and out of a company, while accounting tends to work with paper dollars.  One simple example are loan payments.  If the loan payment is $500/month and $100 is interest and $400 is principle only the $100 appears on the P/L Statement as an expense however, in reality, $500 actual cash flow dollars flowed out of the company.

  • Failure to build debt into your company’s Labor Rate is a formula for disaster

Since most trades companies start out with little to no cash debt it tends to accumulate rather quickly.  Debt can take many forms such as unpaid taxes, loans, lines of credit, not paying suppliers on time, or simply the $20,000 that was borrowed from Uncle Bill to start the company.  None of the dollars that flow out of the company in terms of debt repayment show up in the P/L Statement as an expense!  Again, from a cash flow standpoint those debt repayment dollars actually flowed out of the company but did not show up in the P/L as an expense.

However, when it comes to setting proper hourly rates, all dollars flowing out for debt repayment need to included in the company’s overhead so it is part of the hourly rate. 

Let’s assume the company made a profit of $8,000 for the month and debt repayment totaled $12,000 but was not included in the hourly rate.  That means, from a cash flow perspective, the company actually lost $4,000.  Wow!

  • Growth does not necessarily equal increased profit

The most misunderstood word within the trades industry is growth.  Why?  Most company owners see a direct relationship between growth and profitability.  If we do more work we make more money, right?  Maybe.  When the company grows so do expenses.  There are three points of growth that can literally put a company out of business.  First is when the owner moves from the field into the office.  The owner transitioned from being productive labor (bringing in money) to becoming an expense (salary).

The second point of growth is when gross sales reach $750,000 to $1,200,000 or roughly a million dollars a year.  This is the point where the company is being forced to make significant investments in order to “prepare” to move to the next level but doesn’t yet have the sales to support it yet. Bottom line, about 70% of all contractors that reach $1,000,0000 in gross sales for the first time lose money!

Lastly, growing more than roughly 15% per year will not cause gentle cash flow problems…it will create serious cash flow problems.

  • Departmentalization is critical (each department needs its own unique hourly rate)

Every department has different overhead, different labor hours, and different markup on parts and/or equipment.  That means each department MUST have its own unique hourly rate.  Ninety-five percent or more, of trades company do not break their company out by departments.  The result is predictable.  One department ends up subsidizing another department and no one knows it…until it is too late. 

  • All residential service needs to be priced based on Flat Rate Pricing

Flat rate pricing has two huge benefits.  First of all, the customer never sees you hourly rate or parts cost of markup.  They are only shown the final price before the work is done.

The second huge benefit is when a company’s hourly rate needs to be increased.  The rate is simply changed inside the system, new books are printed, or tablets updated, and no one even knows the price changed.

  • The fear factor of raising the company’s hourly rate is on the part company…NOT the customer

Today’s customer is looking for three things.  First, quality work.  Secondly, do what you said you were going to do, and thirdly do it when you said you were going to do it.  Translated, show up on time.  If these three things are routinely done, price won’t even be on the customers top ten list of considerations.

If any of the above six terms make you think, “Gee, I never thought about that!” then do a little research and explore the topic.

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