Forget Dollars - Zoom In On Percentages
“It has only been two years since my first Blau seminar, a quick 24 months. What a difference that time has made in my life and all those around me. I’ve put together a consolidated version of the last three profit & loss statements from each January (1992-1993-1994) since I attended your seminar. As you can see, I was in the “can” before we met, but wanted to stress to you and your students how bad off we really were.”
Since then I’ve included two additional statements from January 1995 and 1996. This company offers dramatic evidence of how quickly PHC service contractors can turn their life and business around once they start to crunch their numbers, learn what they need to earn a decent buck, and then “take the medicine” required to do so.
Enough sermonizing. Let’s get to the meat of this month’s column.
Company Profile: The company in question is nonunion and does strictly service-repair-replacement work spanning plumbing, heating, cooling and water treatment. They employ 10 persons — the owner, six service technicians, two full-time and one part-time office staff. Their population base is about 1 million.
1991 sales amounted to $410,000. Fiscal year 1996 sales were $1,567,322. That’s a 282 percent increase in the five years since he got educated in 1992, although most of it occurred with a giant leap forward in fiscal years 1993 and 1994.
The owner has not worked with the tools since mid-1992. He works on the business as opposed to in the business.
Key Percentages: As this month’s title suggests, we are going to zero in on percentages rather than dollars. Rest assured the dollars will automatically follow if you keep your eyes focused on the percentages. Two key numbers are the first things I look at to find out if a PHC service company is soaring with eagles or dragging along the ground like a you-know-what. (Sorry, Olsztynski still won’t let me use the “s” word.)
Those key percentages are Cost of Sales (COS) and, the flip side, Gross Margin (GM). You can see by this fellow’s 1992 statement that his COS used to be around two-thirds of revenues. Now it is the other way around, COS amounting to about one-third of revenues.
Based on thousands of P & Ls reviewed over the years, I’ve been able to document that if you make less than 60 percent GM in service work, 40 percent in replacements and 30 percent in new construction, you probably aren’t making any money. Soon as I see a GM in those ranges on a P & L, I know the company is on the right track. Anything less, something is out of whack. Either they are not making money, or the owners are under-compensating themselves and their employees, or scrimping on operational investments, or, most often, all of the above.
Sales Growth: Now take a look at the total sales of this company in January of all those years. We see that sales almost doubled in January 1993 over January 1992, and almost doubled again in 1994.
Yet compare the dollar figures of cost of sales between 1992-1993. Sales increased a whopping 98 percent, yet the cost of those sales increased only 18.5 percent, from $25,620 to $30,356. Material costs barely edged up $1,200 year-to-year. The labor cost increase was a little more substantial. This firm did not add any more workers that year, but they did increase the compensation level for those who were there.
In 1994, this company enjoyed another banner year of sales growth amounting to about 88 percent. Yet cost of sales rose a much more modest 50 percent. Since then COS has stabilized at around 32 percent of revenues.
The only way sales can increase so much more than cost of sales is by increasing your selling prices, which this firm did. I’m not talking about an arbitrary increase, pulling numbers out of thin air. I mean first taking a close look at your costs of doing business, factoring in equitable compensation for all employees and a decent profit, and working up sales prices from there.
Overhead Growth: Note, too, that overhead has grown dramatically for this company in total dollars, though declining from 1992 levels as a percentage of sales. Overhead is a bad word with most people in the industry. To me, an increase in overhead dollars is music to the ears. It usually tells me, as in this case, that the owner and other key employees are finally getting paid what they’re worth.
For example, this owner submitted a W-2 statement for 1991 reporting some $46,000 in gross income, pretty much in line with industry averages. He estimated he put in about 3,500 hours of work that year, meaning he worked for a little over $13 an hour.
For 1992, the year he attended my seminar and began to turn things around, he reported to the IRS a personal income of $112,000, which has been growing ever since. Likewise, his employees all earn more and have fringe benefits they never dreamed of in the bad old days.
Take a look at your percentages, especially those of you in the service business. If your GM looks like this company’s did in January 1992, you are in danger of going down the tubes. Make it your New Year’s resolution to do what it takes to bring it up to the 65-70 percent range where it needs to be for you and your people to prosper and professionally serve your customers.