Jim ‘Bone’ Hamilton
Business Coach
Nexstar Network®
In most service businesses, 70{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f} of a company’s costs of doing business will be consumed by only five expense categories. One of them is labor. This article will focus on arguably the number one expense you need to manage—Direct Labor.
When you look at your profit and loss statement every month, I assume you have a minimum of two columns. One column shows you the actual cost in dollars; the other column presents the actual cost as it relates to net sales, as a percentage. Something like this—
Example of a Profit & Loss Statement showing percentages in a relationship to sales:
Net Sales $100,000 100{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Direct Labor $ 20,000 20{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Direct Mat. $ 15,000 15{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Gross Margin $ 65,000 65{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
When managing your business from your Profit & Loss Statement, start with some assumptions. Assumptions are developed during your budgeting process (Budgets are a topic for another issue). In this article, I will assume labor is budgeted to be $20,000; and 20{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f} of sales.
So let’s look at what would cause a variance in my budgeted assumptions. Let’s start with your selling price. Keep a vigilant eye out for unmanaged discounting by your technicians. Discounting your price by 10{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f} will not change your direct labor dollar cost, but will affect your direct labor as a percentage of sales. Discounting your price to $90,000 will cause your labor percentage to rise 2.22{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}, which in turn, boosts your direct labor to 22.22{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}.
A little over two percent may not seem like much, however, if you and I saw $10,000 lying on the ground, we would be rolling in the mud fighting for it.
Lower than budgeted call volume can affect your labor cost percentages, unless you clock your idle direct labor out or have a plan in place to increase calls during low call volume periods. Managing call capacity is critical to managing your labor cost.
Here’s an error I see all the time, how subcontractor cost can throw off the true picture of your labor. Here’s an example; let’s add $50,000 in subcontractor expense to the example I gave earlier. We will also assume our price has increased by the subcontractor amount.
Example of the Wrong Way to look at subcontractor expenses:
Net Sales $150,000 100{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Direct Labor $ 20,000 13.3{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Direct Mat. $ 15,000 10.0{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Subcontractor $ 50,000 33.3{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Gross Margin $ 65,000 43.4{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Example of the Right Way to look at subcontractor expenses:
Gross Sales $150,000 133.3{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Subcontractor $ 50,000 33.3{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Net Sales $100,000 100.0{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Direct Labor $ 20,000 20.0{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Direct Mat. $ 15,000 15.0{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Gross Margin $ 65,000 65.0{938cd9e8dae860e800efc538277d4f7684e6f6981618ba70d1c34357a53c2e1f}
Subcontractor cost should be deducted from gross sales to give you a true labor cost percentage. Notice what happens to your labor cost percentage when you treat subcontractors as a direct cost. It deflates your labor percentage and gives you a false value. You may be thinking your labor percentage is better than budget—when it’s not.
Years ago, I was told by my accountant, sales will cure a lot of ills. Inefficiencies decrease as sales increase; thereby increase your labor cost in dollars and as a percent of sales. Here is a list of the biggest offenders—
Callbacks—Callbacks can be reduced by providing adequate time to complete each task. A hurried technician is more apt to make mistakes. Don’t put technicians under stress by giving them more than one call at a time. Dispatchers should know each technician’s skill set so they can match the best qualified technician on each call. Standardize how you create your task times. This will communicate expectations to your technicians and reduce callbacks. Get them involved in calculating task times, the process creates buy-in. After all, they’re the ones performing the tasks.
Stand-by time—Your technicians’ operating procedure should be to call their dispatchers at least 10 minutes before finishing their call. This allows the dispatcher time to match the closest waiting customer’s issue with the skill set of that technician. Nexstar has tools to manage this like the Dispatcher’s List of Technician Abilities form.
Limited stock on vehicles—Not stocking the right parts on a service truck, not having adequate quantities of parts, and not restocking truck inventories all lead to wasting a technician’s time having to run to supply houses. It also annoys the customer.
Old vehicles—Holding on to old vehicles in your fleet is asking for trouble. The older the truck, the more susceptible they become to breakdowns.
Not dispatching from home—Dispatching from home will shorten drive time to a technician’s first call of the day and eliminate chat time with other technicians in the shop. The Nexstar Dispatch Manual can help you set up an efficient dispatch center.
Wide service area—Be careful how big your claim on a service area. The Law of Diminishing Returns will come into play at a point where the cost of reaching outlying customers outweighs the potential of earning a satisfactory profit. There are many factors that influence how large your market area should be. Generally speaking for most members, a diameter of no more than 10 miles from a shop in an urban market is big enough. Another indicator is a technician’s average drive time. In most cases, average drive time should be no more than 20 minutes.
Not equipped with the right tools—The right tool for the right job spells efficiency. Don’t make your technicians waste time by skimping on tools to perform their job. Also make sure all their tools are in good working order.
Slow technicians—There are several ways of avoiding slow or inexperienced technicians. New technicians should stay in a helper role until they can demonstrate they know how to perform the tasks that will be asked of them and can complete tasks within a professional time frame. Let them earn the right to become a technician for your shop. Dispatchers should also know the skills and abilities of all their technicians so they can place the right technician on the right job—one who will perform tasks efficiently.
Overtime not associated with billed time—If you’re not billing, ask yourself, why are we working overtime? Then fix it.
Running higher mix of system checks then prior periods—If your technicians are running an inordinate amount of system checks, it could mean your technicians are not capitalizing on sales opportunities. Nexstar members tap into the Nexstar Service System training to help meet this challenge. A high number of system checks could also mean your call counts are falling off. Boost your marketing efforts to generate more calls.
Pay plan too generous—There are several methods to make sure your pay plan is competitive with your market. Nexstar members participate in Nexstar’s Monthly Peer Profit Comparison Program. It’s free to all members. Another proven method is to review the Nexstar Sold Hour Incentive Plan. It is a weekly incentive plan for union and non-union service technicians with a focus on results. In the Sold Hour Incentive Plan, you will find a Technician Incentive Pre-Qualify Checklist and Incentive Target Examples in the Plan’s Related Resources.
Limited incentives in an hourly pay plan—If your pay plan has limited incentives, it could lead to your top employees saying to themselves, why should I do more? If you’re going to keep your best people, you need to pay them well. A well thought out incentive plan rewards those who are working toward your goals. Incentive plans can also build excitement within your team and create a loyal culture.
Managing labor is a lot like fishing. If you want to catch fish, you have to keep your eyes on the bobber. If it moves, you need to take action. Keep your management focus on the top five profit-eating expense line items on your Profit & Loss Statement every month. If you successfully manage these, other expenses will likely manage themselves.
Jim “Bone” Hamilton is a business coach for Nexstar Network®, a business development and best practices organization that provides business training, systems and support to independent home service providers in the plumbing, electrical and HVAC trades. Nexstar members get rapid results, guided by experienced coaches, surefire systems and incredible peer connections. For more information, visit http://www.nexstarnetwork.com.