# Margins, Mark-Up & Making Money!

Editor's Note: This part I of a two-part series.

I just spoke at a national convention of specialty contractors. I left shocked at the number of business owners or estimators who don't know how to price their work. My guess is that over seventy-five percent of all installation contractors don't know the right mark-up to use to cover all of their annual overhead expenses plus make the net profit they want.

The typical standard bidding style is to price work low enough to beat their competitors at whatever customers will pay. Not knowing what it takes to cover your actual job costs, overhead and profit keeps contractors busy doing work for too little a price.

Contractors who don't charge enough for the work they do, ruin it for the business owners who know how to run and manage their companies like professionals. These 'guestimate' contractors leave a lot of money on the table every year charging too little. I call it 'stupid low' when contractors bid jobs to get them at a cheap price to get work and keep their crews busy. They don't know or calculate their real costs of doing work on a regular basis. They use an industry standard square foot, lineal foot or some other ballpark pricing method to calculate their bids.

Most contractors also don't know the difference between markup and margin. Or how much to add to their bids to break-even or make a profit at the end of the year. The difference between mark-up and margin is a simple concept to grasp and will make you more money than you are currently are, if you follow these steps when pricing your next jobs.

Mark-Up % = Percentage of money added to direct job costs to cover overhead AND profit.

Margin % = Difference between direct costs & sales price divided by the sales price.

 Job Bid (Example #1) % Of Sales Direct Job Cost \$1,000 77% Mark-Up @ 30% \$   300 23% (Margin) Job Sales Price \$1,300 100%

Mark-Up % = Mark-Up / Cost = \$300 / \$1,000 = 30%
Margin % = Mark-Up / Sales = \$300 / \$1,300 = 23%

In the example above you are not making 30%. You are only making 23% on your sales. To earn 30% margin on your sales, you would have to markup your costs 42.8%.

Let me show you how to calculate the margin needed to make the overhead and profit you want. To determine your job selling price, you must DIVIDE your direct job costs by the 'Margin Conversion Rate' (MCR).

Job Sales Price = Direct Job Costs / MCR

Using the example above, to make 30% margin on the job (not mark-up), convert 30% margin using the 'Margin Conversion Rate' (MCR) formula:

MCR  = 1.0 - Margin%
MCR   = 1.0 - .30  = .70

To make the overhead and profit margin you want, determine the final job sales price by dividing your direct job costs by the MCR as follows:

Job Sales Price = Direct Job Costs / MCR   = \$1,000 / .70 = \$1,428

 Job Bid (Example #2) % Of Sales Direct Job Costs \$1,000 70% Mark-Up @ 42.8% \$   428 30% (Margin) Job Sales Price \$1,428 100%

In example # 2, margin is 30%. If you are selling your jobs using markup versus the margin method, you could be losing lots of money.

Next, let's figure out how to determine the margin you need to hit your overall overhead and profit goals. It all starts with what it costs you to keep your business open.

The annual fixed indirect cost of running your company is called overhead. Overhead comprises of every cost needed to keep your doors open for the entire year with or without any work under construction. It includes your office or warehouse expenses, phones, utilities, office supplies, postage, computers, website, office equipment, office staff, administration costs, bookkeeping, sales, marketing, advertising, estimating, accounting, legal, banking, company insurance, and closed job expenses. Don't forget to include in overhead a regular salary plus vehicle expenses for the owner or President who manages the company.

 Operating Fixed Expenses Annual Administrative Salaries & Benefits - President / Owner (Non Job Charged) \$ 100,000 - Estimator / Sales \$   65,000 - Non- Job Billable Project Manager \$   20,000 - Office Staff  (Non Job Charged) \$   60,000 - Labor Burden For Overhead Only! \$   45,000 Vehicles (Non Job Charged) \$   18,000 Office, Rent & Utilities \$   36,000 Office Supplies & Equipment \$   20,000 Telephone, Communications & Postage \$   18,000 Internet, Website & Computers \$   12,000 Estimating & Bid Expenses \$   10,000 Sales, Marketing & Promotion \$   36,000 Office Insurance (Non Job Charged) \$   15,000 Interest & Banking \$     3,000 Professional, Legal & Accounting \$   12,000 Service, Closed Job & Warranty \$   20,000 Miscellaneous \$   10,000 Total Annual Overhead \$ 500,000

Notice what is NOT included in your annual overhead cost: field labor, field labor worker's compensation insurance, field labor benefits, field trucks, field equipment, gas and maintenance for field vehicles, job insurance, job supervision, and project management. These field costs should be included in your total job costs as they are not needed unless you have jobs to build.

An exception needing to be included in your overhead is the non-job billable portions of your project management, field supervision, field labor, and field vehicles you pay for while they are not working on a job. For example, if you have to keep paying a superintendent during the winter months, you'll need to add that portion of his salary to your overhead. And if you can't bill-out for your vehicles every day, you'll need to include the downtime days in your overhead cost.

To calculate your break-even overhead margin to use on your bids to break-even, you'll have to estimate the annual sales you'll be able to collect for the entire year. In example #3 below, you have estimated three different levels of annual sales: \$1,000,000, \$2,000,000 and \$3,000,000. For each sales level you estimate, you'll have a different Overhead Margin needed to add to your bids to allow you to break-even.

 Break-Even Analysis (Example #3) Annual Overhead Expenses \$   500,000 \$   500,000 \$   500,000 Estimated Annual Sales \$1,000,000 \$2,000,000 \$3,000,000 Overhead Margin To Break-Even 50% 25% 16.66%

 Break-Even Analysis (Example #4) Direct Job Costs \$      1,000 \$      1,000 \$      1,000 Margin Conversion Rate MCR  = 1.0 - Margin% .50 .75 .8333 Job Sales Price (Cost / MCR) \$      2,000 \$      1,333 \$      1,200

Editor's Note: In part 2 of this article, we will explore how to calculate your profit and develop a profitable job estimate. In the meantime, learn these important factors and calculate your annual overhead and break-even for your company.

George Hedley is an entrepreneur and best-selling author of Get Your Business to Work! and The Business Success Blueprint For Contractors available at his online bookstore. As a popular speaker and business coach, he helps business owners build profitable companies. E-mail: gh@hardhatpresentations.com to request your free copy of "Profit 101 For Contractors!" or sign up for his free monthly e-newsletter. To hire George to speak, be part of his BIZCOACH program, or attend a "Profit-Builder Circle" boot camp, call 800-851-8553 or visit www.HardhatPresentations.com.