The devil’s in the details (Part 2)

As I discussed in my last article, it’s important to have a pricing and information management system (IMS) that’s granular enough to accommodate the complexity and volatility of today’s marketplace and keep your pricing current with its chaotic cost fluctuations. The pricing system that I proposed does just that. Unfortunately, some software and IMS programs in the green industry market today have faulty mathematical equations built into them that could reduce your profitability.

How it works in the real world

Eric Wewerka, president of Wewerka Construction Management, uses my cost estimating system to establish his landscape installation and maintenance pricing. Because he has a very detailed (granular) pricing system, he is able to tailor his pricing to accurately reflect the changing costs in today’s marketplace. These cost fluctuations would include the $1 to $2 cost increase of fuel, the 10% to 20% increase in the cost of trucks and field equipment, labor cost increases for both field and office personnel, the 8% cost of inflation, the rise in the cost of health insurance and so forth.

These cost increases are reflected in our MS Excel pricing worksheets (See the worksheets under the Web Extras section on lawnandlandscape.com) as follows:

1. Truck cost increases: I increased the cost per hour (CPH) for the crew truck by $1. If we bill out 10,000 hours (5 years x 2,000 hours per year) for this truck over its lifetime, this increase will account for a $10,000 increase in the price of the truck.
2. Fuel cost increases: I increased the CPH by $2 to accommodate a $2 increase in this truck’s lifetime fuel cost. It calculates as follows:

((5 years x 20,000 miles per year) ÷10 mpg) = 10,000 gallons

10,000 gallons x $2 cost increase = $20,000

$20,000 ÷10,000 lifetime hours = $2 CPH increase

3. Field labor cost increases: These increases are included in the field labor rates at the top of our MSX worksheets.
4. Health insurance, 401K, workers’ compensation and general liability insurance cost increases: These costs are included in labor burden. I increased the labor burden for both installation and maintenance crews 2-3% to cover these cost increases.
5. Field equipment cost increases: I increased the CPH for mowers, edgers, trimmers, etc. by $1 to $2 to cover fuel and equipment cost increases.
6. General inflation office labor cost increases: These cost increases would be reflected in the general and administrative (G&A) overhead cost.

A False Mathematical Assumption

I allocate general and administrative overhead costs very differently than do most pricing systems. Typically, materials are marked up 10%, trucks and field equipment 25%, subcontractors 5%, and field labor anywhere from 55% to 95%. Net profit is then added on top of these markups either as an additional markup or margin. I taught this system for three years in the late 1980s when I worked with Charles Vander Kooi. You will see these percentages applied to direct costs in most green industry software programs. This is a huge mistake. No one has ever validated these percentages mathematically. They are totally pulled out of thin air. Hence, they are inherently inaccurate. I explain why these or any percentages applied to direct costs for the purpose of G&A overhead cost allocation are mathematically inaccurate in my book, A Critical Analysis of the MORS Estimating System.

I use a G&A overhead per man-hour unit cost instead of diverse percentages multiplied by direct costs. In cell “G10” of my MS Excel examples, you will see that I use $22 and $12 respectively for the install and maintenance crews. This system is much more accurate, and it is easily adjusted to accommodate the various divisions in your company.

Pricing and cost differences between installation and maintenance crews

There are some very important cost and pricing differences when comparing installation to maintenance crews. First is the cost of field labor. Installation crews usually cost 10% to 20% more than maintenance crews. Second, labor burden is usually 2% to 5% higher for installation crews. Third, the G&A overhead cost per man-hour is 50% to 100% higher for installation crews than for maintenance ones. Fourth, the net profit margin applied to maintenance work is usually about ten percent while it is a minimum of 20% for residential installation work (about 15% for commercial installation work). Add up all of these differences and you will see why landscape installation labor is usually $10 to $20 more expensive than maintenance labor.

Conclusion

Eric at WCM prefers not to publish in this magazine the exact figures that he uses to calculate the rates that he charges his customers. However, he uses the system described in this article and in the accompanying MS Excel worksheets to do so. It has allowed him to adjust his pricing to accurately reflect the chaos and volatility of his marketplace. Remember, the primary purpose of a cost estimating system is to calculate your costs accurately. Eric’s system does so.