Over the past several months there has been talk about an economic slowdown that is looming overhead for later in 2019. Although the stock market has declined recently, it keeps bouncing back a bit every so often keeping it from being labeled a crisis by economists. Unemployment remains at its lowest point in decades and business continues to percolate.
Right now it’s hard to predict when the slowdown will strike. However, it appears the Fed will continue to raise interest rates to force a slowdown to ease inflation.
So now is a good time for contractors to plan for slower times. And the strategy chosen will either exacerbate the downturn or put contracting companies in a stronger position.
Here is a recommendation; when the slowdown hits, it’s time to INCREASE SERVICE RATES. Now this suggestion may seem counterintuitive, but it should be given serious consideration.
In slower times, contracting business becomes more competitive, driven by the fact that there are fewer consumers in the market looking to buy durable goods like HVAC, Plumbing and Electrical systems. Fewer jobs and less backlog creates a twinge of fear in most business owners. Consequently, those business people are likely to hold the line on their pricing to consumers. In fact, if the downturn develops into a protracted recession, many business owners cut their prices. The combination of fewer jobs and lower profit margin creates a downward spiral from which it is hard to pull out.
Now, it certainly is understandable that more pressure is put on contractors when equipment sales drop. Certainly, pricing needs to be competitive enough to capture new orders. But the fact that there is less installation work also indicates that consumers are holding onto and seeking service on equipment that perhaps should have been replaced. That creates an opportunity for service companies to grow service while installation work shrinks. It also provides the opportunity for higher service rates.
Let’s start by stating right upfront that contractors will need to price service work by using a flat rate pricing system. If they don’t, customers will likely react negatively to higher service rates.
(You can learn more about flat rate pricing from the videos listed here.)
Now, what about that increase in service rates? If one is trying to recover overhead cost and offset a drop in profit margin due to fewer installations, a good place to start would be to look at how many fewer installations are sold over the current period of time as compared to a prior period of time that would be more representative of a typical quarter, half year or year’s installation work.
If installations have dropped off by 10 jobs in the last quarter and the average contribution to overhead expense and profit margin was $1,875 per job, $18,750 per quarter (10 x $1,875 = $18,750) will need to be made up. Extrapolating that number for a full year the amount of overhead and profit needed to recover would be $75,000.
Now each service technician bills about 4 hours per day on average. That computes to 1,000 billed hours per year per technician. If a company employs three service technicians that is 3,000 billable hours per year. To achieve the dollar increase in service rates needed, divide the $75,000 by 3,000 ($75,000/3,000 = $25). That’s it. In this example, service rates need to increase by $25 per hour to offset the decline in installation work.
If a contractor is using time and materials pricing and the regular hours service rate was at $110, adding $25 brings the rate to $135 per hour. That is a large rate increase and it could be hard for customers to understand and accept. In fact, it may be even harder for company employees to understand because their pay has likely stayed the same.
However, when using flat rate pricing, the amount added to the repair fee quoted is less dramatic because it is one price for repair, not a price for labor and a price for the parts. So, a $260 repair with one hour of labor would increase to $285. A $117 repair with a half hour of labor would increase to $129.50.
Successful contractors using flat rate pricing have found that complaints about service pricing drop off significantly when compared to time and materials pricing. That’s because the fee for the service call and the fee for the repair are quoted upfront. Consequently, there are no surprises for the customers. And labor rates can increase because hourly rates are never quoted or discussed.
Converting to flat rate pricing is the first step in being prepared for an economic slowdown. After implementing flat rate, the only other issue is determining the proper amount to charge in order to remain a viable business.