Steve Payne
The Rule of One Third: Are you making a minimum of 33 per cent gross margin?
Canadian Contractor Estimating Business Insurance ProfessionalMarkup on direct job costs (labour and materials) to reach One Third gross margin (33 per cent) is 50 per cent.
No matter how tough the cash guys are making it on everyone, it’s important to realize that being a renovation contractor eats up massive amounts of dough on overheads.
Overheads like worker’s comp and private insurance, licenses, permits, vehicles, fuel, gas, cellphones, accounting costs, tools and bits, advertising… you name it.
As you’ve noticed, these overheads can easily add up to as much as 20 to 25 per cent of all your billings. Or more.
So you have to make at least 33 per cent gross profit, just to eek out a 10 per cent NET profit at the end of the day.
And if you can’t put at least 10 per cent net profit in your pocket at the end of the day, why would you want to be in a risky business like this one?
Don’t take our word for the importance of making MINIMUM 33 per cent gross margin as a renovator.
Victoria Downing of Remodelers Advantage coaches her renovator members on attaining this number or much higher.
Mike Draper of Renovantage coaches his members on attaining this number or much higher.
Michael Stone of the well-known contractor training website www.marketandprofit.com, coaches his professional renovator readers on the importance of hitting 34 to 42 per cent in gross margins.
But ONLY about One Third (3 out of 10) of the respondents to our 2013 salary survey, for jobs billing between $10,000 and $50,000, were hitting the One Third (33 per cent) gross margin number.
GROSS PROFIT PRIMER
Gross profit EQUALS Total Sales (Billings) MINUS Direct Job Costs (Mostly Labour and Material) DIVIDED BY Total Sales (Billings), expressed as a percentage.
So if you bill $30,000 for renovation work on a project, such as a basement renovation, and the material costs $10,000 and your labour costs $10,000, your Gross Profit obviously equals $10,000.
This gross profit gives you a 33 per cent gross margin percentage ($10,000 divided by $30,000).
NOTE THAT THIS REQUIRES A MARK UP OF YOUR DIRECT JOB COSTS OF 50 PER CENT!
DO NOT CONFUSE GROSS PROFIT WITH MARKUP!
If you realize you are going to spend $20,000 on a job like the one above, and you only mark it up 1.33, you will get a total billing to the customer of $26,600.
Your gross profit will be $6,600, which is a gross margin percentage of 25 per cent ($6,600 divided by $26,600).
With overheads running at 25 per cent, YOU WILL HAVE WORKED FOR FREE.
You can make no money staying home and watching television. Why would you want to go out and renovate houses for no money?
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Dear Steve
Thanks for writing this piece. If more renovators were operating their business with realistic gross margin targets, the industry would be greatly improved. You are setting us on the road to a better life.
However, I think that this is a long uphill gravel road, especially when high profile contractor Jim Caruk is writing articles in the Toronto Star (April 17 2014 and July 04, 2014), articles aimed at educating homeowners, that a 10% markup is standard. The July article in part compares flat fee contracts to a fee based contracts and I found it to be rather insulting as he writes “But you should be aware that in order to protect themselves, contractors will significantly pad their costs in the budget in order to cover any unforeseen extras. That’s pretty rich from a guy who claims on his rag’s website that it ..”is coming from the trades, for the trades, and has a no-holds-barred credibility, eliminates the BS, and speaks the truth.” I think I can do without his kind of truth and credibility.
Fellow contractors–know that all around you are other contractors who are earning according to the rule of one third (and more) and you can too. It takes guts to raise your prices and you may have to raise your entire game to do it, but together we can pave this road together. Let’s all rise above the chatter, the trash talk of those who don’t know what they are talking about and let’s earn what we are really worth.
THANK YOU for stating what should be blatantly obvious. No one, at least no one I know, goes to work willingly to make NOTHING, or worse, to pay their employer for the joy of working for them. You can bet that every person you see driving to work is planning on making a “profit” of some sort. It should be no different for the renovator, who quite frankly, is required to have some crystal ball and know every contingency that might occur- oh, and cover the cost if something goes wrong. Renovators are amazing individuals who are required to know everything. Sure, there are always bad apples in every industry, but asking for and receiving market value or above for your services should be the norm.
It is all great to play contractor and businessman on paper, but in the real world where the boots have to hit the ground running, lean and mean is the flavour of the day , and the idealistic “paper boys” never even get close to the table. We live in a world that believes that all bids are created equal in scope, materials, and workmanship. The lowest bid gets to sit at the table. The biggest problem is that we do not allow tradesmen to be tradesmen and allow them to do what they do best. The system demands them to be contractors / businessmen / hoop jumpers first and foremost, and a producing workforce dead last. Government has no lack of energy or appetite for creating hurdles and roadblocks for contractors. It use to be that a work day was 8 hours long and generally meant 7 1/2 hours on the tools. This was a fair relationship for the tradesman and the customer paying the bill. Over the years the business and hoop side of the exercise have become ridiculously out of balance and mathematically unsustainable. The underground contractor is thriving in this weak economic climate and meets the strained budget of the ever shrinking middle class. When I take any project or job, and draw a line “on paper” separating it into two parts; one part being what my real cost is to do the job, the other part being hoops and hurdles, there is sadly more pencil lead on the latter side of the page. I can try and add more pencil lead…. but the whole page turns into a lead zeppelin and will not fly.
Nickel N. Dimeless, thanks for your post, well said.
It’s a thin line we negotiate. If you are going to achieve better margins you will need to do more then just increase your mark-up. If you really want to do better you need to compare yourself with the contractors you want to be most like. You can’t compare yourself with the guys working out of the back of their pick-up for cash. And you can’t necessarily work with a client that would be willing to take the risk of working with them either. Lots of contractors start as a tradesman and that can be a benefit in some ways and it can also hold you back in others. Your mind set is the most important tool you have and if you don’t believe that you might consider staying on the tools. Whether you like it or not you are a salesperson when you are trying to win a contract. And if you don’t use sales techniques from the outset, you will be at a disadvantage. Presentation is everything. Presentation is everything. Presentation is everything. Play the part you want to be, and pretty soon you will be the part you want to play. To get to better margins you need to wow that client not just give them a better price. And if you’re falling short in the wow factor you are just another number to them. So you can get better margins if you are willing to learn what it takes to really win that client over.
I found this article very enlightening, and I’m going to apply it wholeheartedly. However, in Winnipeg, the trade market is treacherous at the moment. Theres guys who are painting 3 bedroom houses for $200, who are staining 1000 sq ft decks for under $500 material included. Maybe its only in my trade, but either way I believe the drug trade is responsible for it, as sad as that is for other painters who put their heart into the work and respect the trade, its a reality for these sad troubled times. But I’m going to stick to my guns, and I hope other painters do as well, and charge customers for what our work is worth, because I’m not going to work for 50 pesos a day, no pun intended.