The Formula for Profiting On In-House Labor
This covers an aspect of business I have not heard much on around the various flooring sites. Perhaps you have and you may find this repetitive or boring. If so, my apologies. However, for those who have not, the point I hope to share comes from a pivotal point in my wife’s and my business becoming truly profitable. So here goes…
It would be easy to say the best formula for profit margins is to always have our income exceed our out-go. That’s really silly, it’s like saying the best way to avoid accidents is to not have them. You might need to read that sentence again. I know, it’s an obvious point. The problem is, doing the obvious is not always as easy as identifying it.
The Truth About Profit Margins On Labor
The truth about profit margins is they are only one of many tools the business owner must work with to maintain profitability. Another tool that I have found to be invaluable in keeping our business profitable has been tracking the average costs of expenses. This is especially true in the area of in house installation labor.
Too many flooring companies allow the “prevailing wage” to set their labor rates. This is, in effect, allowing the low-bidder to set a revenue cap that, for those who seek to provide true quality workmanship, may very well fall below our costs. This, in my view, is a recipe for failure.
This is the point where we hear folks say, “we gotta be competitive!”
We Gotta Be Competitive?
To this I say HOG-WASH!! What we GOTTA be is profitable. This is one of those times when we can all hear our mothers saying, “if all the other kids’ moms want to let them jump into a muddy hog pen, does mean I should let you?”
Listen folks, there are times in life and business when we have to ignore what everyone else is doing and do what we need to do. Managing our profits is most definitely one of those times.
With this said, let’s get back on track. In business we have two types of expenses: Fixed and Variable. Fixed expenses, the ones that remain unchanged from month to month, are easy to plan and budget for. The variable expenses are those expenses that change from month to month. Some are easy to track, like heating, cooling and electric consumption, and others are more volatile like repairs. Even still, most of these variable expenses account for a relatively small percentage of a company’s revenue burden.
For flooring businesses, one variable expense that can be extremely volatile and account for a significant percentage of the companies revenue burden is in-house labor. This is why so many retail operations choose to subcontract out their labor. It makes for an easy expense to budget for. They know the exact labor cost up front for every unit of product they sell. Sure, it has its hassles, but the fact that it’s quick and easy is a powerful lure for many business owners in the floor covering industry. An interesting side note is this is not the case in other service trades like plumbing & heating, ventilation, electrical, painting and sheetrock, to name a few.
For those of us who choose to provide in house labor, the additional risk also brings additional rewards that, for those who routinely monitor and track the average costs of expense, enhanced profits is one of the most pleasant rewards.
What is the Volume of Productivity?
Here’s where many businesses fall short, especially those who provide installation labor. The shortfall is not in the area of supply costs and it is not in the area of operational costs. These are easy to calculate. The big area of miscalculation is with respects to the volume of productivity.
How many yards would an installer install, if an installer could install yards… and yards… ? Ask most in the business and they will give figures like 80, 100, 150, 200, some even more. We’ve all heard installers brag about how many yards they lay in a day. And you know what? That day they did! But what we need to know is how much do they do everyday, twenty-one days a month, fifty weeks a year (my math is fine – we’ll discuss compensation beyond hourly or yardly rates another time).
Because while we can easily tabulate our per yard cost for supplies and labor related operational expenses, it is the actual billable man-hours that stand between us and profits. Now I’m not going to come here and try to tell anyone how to operate their business. All I can do is share what has worked for us. If it helps you great, if not, the information is worth what you paid for it, so nothing is lost. Here goes with the rest…
Formula for Success in Labor Profits
To determine the average cost of expense for labor, we take the labor invoices for the past quarter. Toss out the three highest and the three lowest. We then total the number of days worked and yards installed. The installed yardage figure is divided by the number of work days. This provides us with a realistic and accurate snap-shot of the daily volume of productivity.
Here’s one way we can do this:
Let’s assume, that our operational and supply costs equal $1.00 per yard and our average productivity output is 60 yards per day. How much do we need to pay the installer a livable wage (including taxes), divided by 60, plus a dollar per yard for operational and supply costs.
$20.00 per hour (including taxes) @ 40 hours per week is $800.00
$800.00 divided by 60 yards per day (300 yards per week) is $2.67
$2.67 plus 1.00 per yard for operation and supply costs is $3.67
$3.67 per yard to break even.
It is important to keep in mind, this is from the retail perspective and the $20.00 per hour is our cost, including taxes but excluding benefits like medical or 401-K programs. The employee’s take home is more like around $16.00 per hour. A decent wage in some areas, not even close to being enough in others. The point here is to show the formula.
The real surprise, for any who decide to try this, is in learning what an installers “average” volume of productivity really is.
Want to try it with a higher per hour rate?
$30.00 per hour (including taxes) @ 40 hours per week is $1,200.00
$1,200.00 divided by 60 yards per day (300 yards per week) is $4.00
$4.00 plus 1.00 per yard for operation and supply costs is $5.00
$5.00 per yard to break even.
Break Even is Not An Even Break
Remember, break-even is a nice way for saying zero, zip, nada, nothing! For all the grief, stress and aggravation, not to mention the inevitable non-billable expenses like claims, no fault cancellations and repairs to name only a few.
With a profitable business as the essential objective, now that we have a means of reasonably determining our average cost of expense for labor, the next step is to add on a mark-up to protect our assets against the unforeseen and inevitable non-billable expenses that constantly erode the revenue stream.
Example: $5.00 per yard multiplied by 160% = $8.00 per yard for labor.
A couple of final thoughts:
First, when determining the average volume of productivity, don’t forget this is per person. There was a braggart I conversed with once who insisted he installed 180+ yards per day. Then, come to find out, “he” is actually a crew of three. That brings the 180 yards per day down to 60 yards per person.
Second, the information shown here is an example of the process we use to ensure labor does not become a hidden leak in the profit pool. Because the only thing more destructive than providing services at a loss, is believing they are being provided at a profit when they are not.
Third, and probably not last of all, regardless of what you charge, be it at, above or below the prevailing wage in your market, the most important step to profits is knowing why our rates are what they are and that what they are is adequate to allow us to operate a profitable business.
With Kindest Regards…
This article was originally published on October 20, 2006. If you would like to discuss this article, or any of the other articles you have found here at TheFloorPro.com, please join us in the Articles Discussion Forum. If you are not yet a member of The Floor Pro Community, we invite you to register now, it’s free and gives you the opportunity to enjoy all the features of the site.