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Im not the biggest company out there, and to tell the truth at most times its just myself. Im a new company that refuses to make mistakes and ive been reading alot about mark-up and profit. Ive also gotten alot of good advice in the threads i read in hear.
My question is should i be concerned with volume based pricing or should i do capasity based pricing? I dont have a ton of work right now and i also dont have any numbers to go by from last year i just want to have a system in place for when work gets more steady.
Some books that have been recomended are Michael stones mark-up and profit and also Walt Stoeppelwerth professional remodeling managment. Any comments would be great.
 

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Im not the biggest company out there, and to tell the truth at most times its just myself. Im a new company that refuses to make mistakes and ive been reading alot about mark-up and profit. Ive also gotten alot of good advice in the threads i read in hear.
My question is should i be concerned with volume based pricing or should i do capasity based pricing? I dont have a ton of work right now and i also dont have any numbers to go by from last year i just want to have a system in place for when work gets more steady.
Some books that have been recomended are Michael stones mark-up and profit and also Walt Stoeppelwerth professional remodeling managment. Any comments would be great.
Where in MA are you from?
 

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Western end of the state, your in the high rent district
 

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...Some books that have been recomended are Michael stones mark-up and profit and also Walt Stoeppelwerth professional remodeling managment. Any comments would be great.
ronm1974, with all due respect to Michael Stone and Walt Stoeppelwerth I don't recommend reading them for learning how to markup and price projects.

Instead I would recommend your picking up Ellen Rohr's book How Much Should I Charge?: Pricing Basics for Making Money Doing What You Love and David Gerstel's book Running a Successful Construction Company.

Stoeppelwerth and Stone both advocate a Volume Based Markup and unless you can afford to leave some money on the table or even lose some money on a few projects I don't recommend their method.

David Gerstel is to the best of my knowledge the fellow who first coined the term Capacity Based Markup although he certainly didn't invent the method since it's been around for years going under a bunch of other names. While Rohr doesn't ever use the phrase Capacity Based Markup in her book the method she described in very simple easy to understand detail is Capacity Based Markup.
 

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Jerrald:

Couple of quick questions based on what I have read on your site and based on some of your posts recently. As I have read Stones M/U book, I do understand the issues you speak of. We basically have two types of projects. The first being residential or commercial roof replacement (mostly insurance work) which the labor force is 100% subcontractor, and fire or water damage restoration which is primarily subcontractor based. I have one general super who bags out when needed and two full time men. We do as much as we can in house, but I prefer to sub to qualified insured subs. Would your worksheet work for this scenerio? Thanks in advance for your time.
 

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Buildpinnacle, I am a little bit confused about the structure of the scenario you are describing to me but in the past year or two where I have been really taking the time to analyze and respond to the criticisms and questions people have regarding Capacity Based Markup I have yet to find a scenario where I can't model it and it fails.

That said, you still can't just take my word for it, that would be accepting what I say as an Argument of Authority.

The excel workbook I developed that I think you are referring to, I could anecdotally say probably works for 95-98% of all contracting scenarios but there are a couple of scenarios where it isn't going to work perfectly as it is right out of the box. For instance I have a friend of mine who right alongside his contracting operation runs a wholesale and retail store operation too. In his case the "flavor" of Capacity Based Markup technique that he is using is what's know as Multiple Overhead Recovery System or MORS. But still Capacity Based Markup as I generally describe it and Multiple Overhead Recovery System are all based on the managerial accounting principles of Activity Based Costing whereas Volume Based Markup/Gross Margin Pricing is based on the financial accounting principle of Absorption Based Costing and therein lies the problem with it. If you google the words "activity based costing cost distortion" you see a find a bunch of academic papers about how ABC deals with the distortions that Absorption Based Costing and Volume Based Markup create.

But forgetting all the hoity-toity academic talk let me see if I can ask you a few questions and figure out just what you are describing to me. The residential/commercial roof replacement work you do you do exclusively with sub-contracted labor? Do those sub-contractors provide their own equipment to do the work such as scaffolding, ladders, etc or do you? And how much supervision do you provide over them? In other words is the super you mentioned supervising their work or is he just supervising your two full-time mechanics on the fire or water damage restoration projects you do? And what do you do in all of this production-wise? Do you supervise in the field or are you solely sales and administration? If you can fill me in a little bit more maybe I can model your case out for you over the weekend.

And just for you own information one of my favorite articles that I found while collecting and researching information on Activity Based Costing, Capacity Based Markup, PROOF, PIF, MORS, and DORS (which are all different flavors of the same method) was an article on Dual Overhead Recovery System (DORS) which started out saying:

"Can a roofing firm improve its annual net profit six-fold and outpace its segment and the industry during a general economic slowdown? Most people would say that magic is necessary for that to happen. Yet, outlined below is a case study describing MacDermott Roofing and Sheetmetal —a company that did just that..."​

So I am very confident that this will still all work in your case too.
 

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Im not the biggest company out there, and to tell the truth at most times its just myself. Im a new company that refuses to make mistakes and ive been reading alot about mark-up and profit. Ive also gotten alot of good advice in the threads i read in hear.
My question is should i be concerned with volume based pricing or should i do capasity based pricing? I dont have a ton of work right now and i also dont have any numbers to go by from last year i just want to have a system in place for when work gets more steady.
Some books that have been recomended are Michael stones mark-up and profit and also Walt Stoeppelwerth professional remodeling managment. Any comments would be great.
It's; a lot, two words.








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Thank you for your time, Jerrald. As with most owners, I tend to wear all the hats except for the labor. I am marketing, sales, bookkeeping, accounting, insurance, quality control,etc. Hence my interest in your company. I am slowly, trying to put people in place around me that are better than me at each particular facet of my business, but it is a slow process. My super manages production and QC on both in-house and subcontract work. I am slowly giving him more and more responsibility and accountability in these areas and trying to loosen the micromanagement reigns a bit. The two mechanics are mostly used for work that had their labor in mind during the bidding process, but occassionally they pick up on a previously intended sub portion of the work such as drywall hanging, or insulating walls, etc. but only when it makes financial sense, they need work between projects, and the quality doesn't suffer.

On all roofing related work, the subcontractor provides everything except materials. I do QC the job with both my super and myself. The fire/water resto work runs very similar to a GC building a house. All licensed trades are subbed out, we do all demo and framing in house, and other than the aforementioned scenerio, all other trades are fully subbed. I do try to provide materials mostly.

The construction industry has been and still is a very lucrative industry that doesn't require much more than hard work, good quality, communication, and reasonable (not cheap) pricing to succeed. Personally, I am at the point as a young businessman where I want to take my business to the next level. By that I mean running my company more like a business than a workaholic unorganized salesman. I am somewhat familiar with your reputation, and i am aware that you are a consultant so by no means am I asking for you to assist in the growth of my business structure on CT for a little exposure and a couple thank yous. I would ask that you outline what services you can offer as I am very interested in speaking with you further about this and other topics. Feel free to do so in PM and we can exchange information. Thanks again for your interest.
 

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ronm1974, with all due respect to Michael Stone and Walt Stoeppelwerth I don't recommend reading them for learning how to markup and price projects.
I just finished reading the Stone book, and I've had Gerstel's book for over a year. I just re-read (after seeing this thread) the capacity based markup section in his book. The hole I see in capacity, is what happens when you don't have work for two weeks, then get a one week job. Do you apply 3 weeks of O&P to that job? That could easily be a 100% markup. It seems like you need to stay booked for that to work.
Whereas with Stone's method, you need to hit your projected sales number, which he emphatically emphasizes (even more than construction itself); and he provides an in depth chapter on sales.

In my case, the Stone method makes more sense: on a good job for me (20K), with a few subs, the job will be complete in 2 weeks. On a small job for me, I'll spend the better part of a broken up week by myself for 1.5K. And then there's three weeks inbetween with nothing (but incurred OH).

Gerstel says, "You can run into trouble using a uniform percentage if you move away from a narrow range to a much wider range of projects -- or if you experience large variations in your total volume of work." This seems to be my situation, but the uniform % still seems better. Am I misunderstanding these formulas? I suppose your targeted job/client will have a bit to do with which method works better.

Thanks,
Dave
 

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The construction industry has been and still is a very lucrative industry that doesn't require much more than hard work, good quality, communication, and reasonable (not cheap) pricing to succeed...
That is a very good astute observation but I think that is going to change to some degree. The construction industry is full of inefficiencies and waste and we are behind the times when we compare the services we offer in to those offered by other industries and consumer demand will drive change down the line. And let's face it the new construction market will never come back to what we saw going on in the last couple of years nor should it. The building and remodeling industry as we know it is due for and in for a major remodeling.

Personally, I am at the point as a young businessman where I want to take my business to the next level. By that I mean running my company more like a business than a workaholic unorganized salesman.
I've been there and done that and while I'm not what I consider to be young anymore (I'm 52) and I'm thinking the same thing too about stepping it up another level. I am also still a contractor too.

I am somewhat familiar with your reputation, and i am aware that you are a consultant so by no means am I asking for you to assist in the growth of my business structure on CT for a little exposure and a couple thank yous.
Do you mean my reputation as being a building and remodeling business iconoclast? Years ago I saw a book entitled 'Sacred Cows Make the Best Burgers' and while I never read it I've always loved what that title implies. I certainly don't talk in the forums to drum up business because the ROI on for that kind of time and effort is pathetically tiny but I do step into the forums from time to time for a couple of other very good reasons. I talk (write) about what I know to help sort out and organize the thinking for myself and it helps me understand what the problems we all face as contractors are by talking with other Joes (and Marys).

I don't at all mind taking the time to model out a scenario here and there of how Capacity Based Markup/Activity Based Pricing would work based on what you're doing because I am actually working on a paper/article that needs to look at how it works in different business models. I am in fact trying to model as many different profiles of contractor business models as I can to test and prove what I have been saying for years now that the CBM/ABP methodology is robust and scalable and will work for any kind of contractor. One of the typical arguments or questions I have heard in regard to CBM/ABP is 'well it sounds like a good method but it wont work for my company because I am not that big' or '...I doubt it will work for anything other than small service jobs' etc., etc., without any kind of logical reasoning to support why they think that way. If there is a scenario where it wont work I certainly haven't found it yet.

One of the stories I've written about how Volume Based Markups fail while fictionalized was based on a true story of what actually happened to me back in 1986-87. I followed what the books (the books at that time that is) had to say about how to compute and work with markup and I got burned big time and no one had any answers for me until I went to a New England Builder (now JLC) sponsored seminar on markup taught by Irv Chasen of PROOF Management Consultants which taught the PROOF markup method (which is was what Gerstel later defined as Capacity Based Markup when he wrote his book in 1991). I went ah-ha! Now I know what went wrong and I have never looked back.

Times are tough now. There's a good chance some contractor who's just recently gotten off the ground and is using the Volume Based Markup Method might get offered a big labor only sub-contract and think that was great just like I did back in 86-87 and is just what he or she needs in this kind of recession. I like to think that if I keep on talking in forums about this I can help them think intelligently and make the correct decisions about pricing that can keep them from driving their company off of a cliff like I did back then. And to the contractor that is still making it along and doing 'okay' using a Volume Based Markup for them CBM is a path to improved profitability since it will eliminate the problem with those jobs that so many contractors talk about that they "just can't make any money on".

That's why I talk. As an industry we need to change the way are headed and this is just one small part of the problem but an important one since to quote Jim Collins the author of authors of Built to Last: Successful Habits of Visionary Companies:

Profit is like oxygen, food, water, and blood for the body; they are not the point of life, but without them there is no life.
 

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Dave, before I write anything I am thinking maybe I'd better clarify my position regarding Michael Stone's Markup & Profit and this is going to sound really ironic but I think it is an otherwise excellent book for contractors EXCEPT for what it has to say about Markup & Profit. I still recommend it to contractors I talk with but for other topics and reasons.

Regarding:

... just re-read (after seeing this thread) the capacity based markup section in his book. The hole I see in capacity, is what happens when you don't have work for two weeks, then get a one week job. Do you apply 3 weeks of O&P to that job? That could easily be a 100% markup. It seems like you need to stay booked for that to work.
Whereas with Stone's method, you need to hit your projected sales number, which he emphatically emphasizes (even more than construction itself); and he provides an in depth chapter on sales.

In my case, the Stone method makes more sense: on a good job for me (20K), with a few subs, the job will be complete in 2 weeks. On a small job for me, I'll spend the better part of a broken up week by myself for 1.5K. And then there's three weeks inbetween with nothing (but incurred OH).
Your observation and question there is one that even Michael Stone himself has argued but in reality it's logically inconsistent thinking and not entirely thought out.

The reality is if a Volume Based Markup contractor discovers he or she will have a two week gap in their yearly schedule with no work they are in EXACTLY the same jamb as a Capacity Based Markup contractor. Why would the problem be any different for a Volume Based Markup contractor? While the Capacity Based Markup contractor just lost two weeks of Labor to allocate his or her Overhead Cost to the Volume Based Markup contractor just lost two weeks of Volume to allocate his or her Overhead Cost to too!

In a post in blog last October Michael Stone wrote:

Second[ly], when you put your overhead burden on labor, your overhead is dependent on every employee working every day. If someone misses work, the overhead expense is still incurred, but the opportunity to recover overhead for that day is gone. Overhead is a 24 hours a day, seven days a week, 52 weeks a year monster. It doesn’t stop because somebody doesn’t show up for work.
and I thought that was just patently naive and ignores the fact that...

Contractors and any service or manufacturing business for that matter get paid to produce and deliver products and services. If someone doesn't show up things don't get produced and delivered and regardless of what type of markup methodology you use and you don't get paid!

The idea that an Estimated Sales Volume Based Markup solves the problem of employees missing from work is just ridiculous unless there is some magic trick to it we don't know about yet. Following that logic out to its absurd end couldn't we say we don't really need production employees to ever show up at all to make money! Wouldn't that be great!

And clearly if any contractor for that matter is having trouble recovering their Overhead Costs because their employees just aren't showing up to work has a much larger problem on their hands that markup methodology isn't going to solve for them.

That said the problem with Volume Based Markup in that you never know what your client projects will require in terms of subcontracting and materials until you actually have those clients in hand still exists. A Volume Based Markup has to be critically concerned and astutely aware that they need to sell a certain minimum quantity of three different things to cover their overhead. They have to sell a certain amount of their company's labor, a certain amount of materials, and a certain amount of subcontracting. Unless you are hiring and firing all over the place your company's labor is a pretty predictable constant. Your material and subcontracting sales are in reality unknown variables that are totally dependent upon the whim and preferences of clients we haven't even lined up or met yet so how can we know exactly what they want and in what kinds of quantities? In good times or bad a Capacity Based Markup contractor only has to focus on one target. He or she needs to make sure they are selling enough of their company's available billable hours (capacity). You can keep you eye and focus on one ball or you can keep your eye on three.

Gerstel says, "You can run into trouble using a uniform percentage if you move away from a narrow range to a much wider range of projects -- or if you experience large variations in your total volume of work." This seems to be my situation, but the uniform % still seems better. Am I misunderstanding these formulas? I suppose your targeted job/client will have a bit to do with which method works better.
I'm not sure why you seem to think the Uniform or as I like to refer to it Volume Based Markup is still better but perhaps you can tell me a little bit more about just what you are thinking.

Let say you develop Volume Based Markup based on this kind of distribution. You plan based on your Direct Job Costs being 27.1% Labor, 42.4% Materials, and 30.5% SubContracting and your first job out of the starting gate comes in as 41.5 % Labor, 33.4% Materials, and 25.1% SubContracting. What do you do? Do you change your markup on the next job to fix the shortfall you now have? Do you even know you have a shortfall problem? Or do you readjust your markup according to that new percentage distribution? Remember though you still only have a certain number of available labor hours in a year to work so you can't make up for lost volume on work you don't have time to produce.

The simple truth is a Capacity Based Markup contractor doesn't have to do all that thinking. He or she only needs to think about selling enough work to keep their employees busy all year. If they do sell Materials and SubContracting the markup they place on those sales for Net Profit only is just icing on the cake because they've already covered their overhead with labor sales.
 

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The reality is if a Volume Based Markup contractor discovers he or she will have a two week gap in their yearly schedule with no work they are in EXACTLY the same jamb as a Capacity Based Markup contractor. Why would the problem be any different for a Volume Based Markup contractor? While the Capacity Based Markup contractor just lost two weeks of Labor to allocate his or her Overhead Cost to the Volume Based Markup contractor just lost two weeks of Volume to allocate his or her Overhead Cost to too!
Jerrald:
Thanks for writing such an extensive response. Now, what I quote above is exactly the point of my previous numbers example. My point (which I suppose I should have made clearer) is that I've found that with gross sales ONLY in mind, I've found I do MUCH better on a 20K job, than on a 1.5K job. 1.5K = 1 week; 20k = 2 weeks. And contrary to keeping my eye on 3 balls with volume, my understanding of it is that I'm only keeping my eye on one ball: gross sales, HOWEVER that number is made up from labor, materials, and subs. Total job cost gets the markup, period.
Now I don't know if this only works because I have no employees, and the labor portion of the job is only paying myself. And for the sake of the economy I'm not paying myself an OH salary, to keep my MU down, so my running OH is fairly low.
An immediate problem that comes to mind, is that I'm not making enough money, but as far as I understand it, the point of markup is to cover O&P, and I should re-read the Rohr book, with some number crunching to take care of the former problem.
So I dunno: I looked at last years tallies, broke the #'s down properly (to plan for a 2009 budget) and the result was the business was doing pretty damn good for a first year; I didn't do so hot, though, and I'm my business.
Go figure; it's a math problem for Chuck Norris.
Everytime I think I've finally understood O&P, and the separation between my business and myself, I read something 2 weeks later that blows my mind. It's a helluva learning process, and, God help me, I Love It!

Dave
 

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Silvertree just casually dropped a comment under a thread in General Discussion about capacity vs. volume that helped me see the light.

Dave
 
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