A firm can do everything else well, and if the pricing isn’t properly set to recover your costs and produce a reasonable profit for the company (let’s say 15 percent or better after an owner is paid a fair salary), the company will typically struggle to have the liquidity (available cash) to grow.
Proper pricing allows us to execute the following other disciplines:
- Pay your employees well enough to attract, retain, and develop them.
- Offer competitive benefits to attract employees.
- Establish quality training programs to improve team productivity.
- Maintain and acquire new assets, such as trucks and computers, and install new technology when needed.
- Grow the company.
- Pay the owner a fair salary and still produce a target profit.
- Produce a 15 percent operating profit after steps 1-6 are completely satisfied.
Obviously, pricing is just one of many areas of running a successful contracting company. An example is filling a shoulder season when work can be scarce. That, too, can be a part of a promotional, pricing-related opportunity as well.
Pricing is one of the 10 pillars — the core curriculum areas — of EGIA Contractor University. It comes as part of a business structure after leadership — having financial structure to know your numbers so you can price. And of course, like the others, pricing has certain fundamentals:
- Pricing to align with the company business model: Are you Nordstrom or Walmart? Do you target niche, value, or low cost/volume?
- Pricing strategies: To discount during shoulder season or not? To promote or not?
- Market pricing systems and methods: Which works best for which market? For example, service versus install versus commercial maintenance?
- Recovery of (and knowing) your costs: By department or market segment?
- Pricing to market value: What is your knowledge worth? What is your service worth?
- Bundling (for example, service flat rate “rejuvenation” with multiple repairs bundled in one price).
- Benefits included with a product/service, such as lifetime repair guarantee: What does that cost, and what price can you command for such a benefit?
- Loss leaders versus pricing to a GP target pricing.
In reality, there is no one right answer to any of these questions. Answers should align with the very first question: the business model. What a company is trying to position in the market is its brand, and pricing communicates that brand.
In many cases, our industry follows the marketplace, using the cheapest guy or perhaps a larger company as a model for pricing and stating. However, every company is unique in so many ways — costs and goals being two easy ones to agree upon. If this is the case, then pricing your products and services should align with your company interests, not the other guys’ pricing. Plus, from a practical perspective, you do not have insight into the income statement, balance sheet, and cash flow position of those firms, so using them as a primary benchmark isn’t really a proper place to start.
Start by identifying your cost structure. Knowing what it costs to operate a service call, an install, a maintenance agreement product, or a commercial job is the precursor to getting a breakeven figure.
This article isn’t about detailing the answers to all eight of the above questions; that is addressed in more detailed workshops, with time for question-and-answer sessions with experts. However, it is critical to realize that without having accurate costs of what the company is facing, it is hard to establish prices — let alone strategies — to make the target profit figures.
Recommendations for pricing methods preferred after costs are established include:
- Install: Gross profit per man day, or dual overhead, with shoulder season promotions;
- Demand service residential: Flat rate with bundling, and discounts for club memberships;
- Demand service commercial: Commercial flat rate (yes, we do this), or time and material;
- Commercial replacement: Gross profit per man/crew day;
- Commercial design-build: Dual overhead;
- New home (custom or spec): Dual overhead;
- Commercial spec: Dual overhead;
- Residential maintenance: Breakeven or gross margin percentage (this is high-labor, low-material work);
- Commercial maintenance: Breakeven plus a target profit added by building/equipment profile.
Each market segment may carry a unique method of creating a price after the costs are known.
It is impactful for a company to know its key performance indicators, or KPIs. By establishing a price from costs, rather than what the market will pay, we can state that a residential flat rate labor rate may be established at $275 per hour, as an example, to meet a 60-65 percent margin target covering a 50 percent overhead rate in service. However, with a club discount of 20 percent, we need to gross this up to $304, as “some percentage” of people will accept the discount, and unless we add the gross up, our $275 will be the place we begin discounting. In that case, our KPI of 60-65 percent will suffer going below this rate. In business school, this is called markup/markdown cancellation. Some will pay $304, some will pay less than $275; the average will be $275 at 60-65 percent.
Then, let’s add what we are truly “worth” when it’s 115 degrees outside and we have the knowledge, the parts, the experience, and the willpower to serve at 10 p.m. on Friday. The answer is $394 per hour, or whatever the company sees as its brand strategy, knowing we will be full-go 24/7 in summer and looking for work in September. So understanding capacity is critical: we run at 65 percent service hours sold annually, leaving 35 percent inefficiency or unsold, yet still with overhead to recover on those shoulder season days.
Pricing is essential for creating a profitable company. It is disciplined and, while it is part art and part science, it is the science that comes first in order to know a company cost structure, before the answers to the above can be known and the “art” can be created. Don’t follow the “other guys”; follow your costs, follow your business plan, and price for your business and family prosperity.
To learn more about proper pricing strategies, and to download a free training package complete with templates, online courses, industry research and much more, visit egia.org/achr-pricing.
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