Profit is the just reward for the effort and risk the contractor undertakes to produce the job.
As contractors we are often buried in work to the extent that often there is no realization of what is happening in the outside world, especially when it comes to what kind of profit is realistic to achieve in business. In the world outside, the restaurant chain serving a business man’s lunch will recognize 20% net profit on their product. There have been times when the computer purchased for the office was priced to include a 100% net profit. A major computer software developer whose name is almost a household word worldwide recently disclosed that itsâ€™ net profit on software is 73%. That rental car used on vacation last year may have produced a 21% net profit for the leasing agency. Profit is the reward business owners deserve for the risks undertaken to operate the business. How does the risk contractors are exposed to relate to the risks the restaurant owner, the auto leasing agency or the computer manufacturer endure? Unlike the computer manufacturer, the remodeler’s factory is someone else’s living room, and conditions for employment in the factory are dictated by that home-owner. Unlike the restaurant owner, the contractor’s labor must be highly skilled in various trades and the liability for uninsurable risks is much greater for the contractor. The restaurant pays most of the employees minimum wage which is not the case with the contractors employees. Changes in plywood prices might have a far greater impact on the contractor than a change in the cost of coffee would to the restaurant, as the restaurant could simply revise it’s menu in the face of higher costs, while the contractor may be locked into a contract when the higher cost is discovered. The leasing agency knows their costs within a few percent on the car they provide, yet the contractor can be continuously surprised by unforeseen cost factors ranging from hidden construction defects, tightened building codes, or unrealistic customer expectations. Faced with an unhappy customer, the restaurant can simply offer a complementary meal while the remodeler can be put out of business by a customer who doesn’t pay.
The concept of the risk/reward ration dictates that the contractor must receive more compensation than the restaurant owner for example, in light of the fact that he assumes more risk in his business. Yet how many contractors net more than 20% per year after honestly compensating themselves for all the duties they perform in everyday business? Savvy contractors realize that in the current economic climate they are in control, they realize that it is a sellers market! The text-book definition of a sellers market dictates that it is a condition existing when there are too many dollars chasing after too few products. If we stop for a minute and analyze the current remodeling market we will soon realize that this definition of the sellers market is the exact reason why we are having trouble finding good help. It also explains why we sometimes have trouble getting material we need on a timely basis. In a seller’s market, one of the effects created by raising prices is that some potential buyers who are price sensitive are removed from the market. The other effect which is created by raising prices is that contractors are able to realize a higher percentage of profit, perhaps more in line with the risks they assume.
The remodeling business is one of the toughest businesses in which to succeed. The failure rate of contractors in the first five years of business is thought to be 90%. In order to succeed the contractor must remove as many of the uncertainties as possible. One of the keys to success is to have a quick and accurate system of estimating, based on scientifically determined, verifiable numbers which can be used over and over so that it is possible to generate proposals with as short a response time to the customer as possible. The Unit Cost system of estimating when used either manually or by computer provides that key.
The equation we work from to determine the proper price which we will present to our prospect:
Total Job Cost+Overhead+Profit=Price