Question: How do we determine if our prices are too high or too low?
James Leichter; President, Aptora Corporation & Mr. HVAC, LLC:
I love pricing questions, thank you. There are two things to think about when you’re considering if your prices are too high or too low. There’s the mathematical question. By that I mean, are you charging enough to cover your costs and produce a net profit?
And are you charging the correct amount for what your market will bear? Gosh, I hate to even say that, because everyone uses that as an excuse to not charge enough. “Well, my market won’t bear that,” but that’s almost never the case, but anyway, we’re going to cover both of those.
So the first thing you want to do is properly calculate your breakeven point on labor by department. Let’s talk about the service department – typically you need to charge about six times what you’re paying your service technicians. If you pay him or her $25/hour, then you probably need to be at about $150/hour.
Keep in mind if you offer discounts such as military discounts, service agreement discounts, that could mean you need to charge a little more. But that’s a rule of thumb. You really want to go to the EGIA website and use the breakeven calculator to determine what your hourly rate is to break even. And then add to that your net profit. So let’s say that your breakeven is $150/hour. You would then want to add for net profit – net profit before taxes – and you decide what you want: 5%, 10%, 15%? When it comes to the service department, I would want at least 15% — somewhere in the area of 15-20%. So calculate your breakeven and then add for net profit.
Now, just a reminder: if you are a 15% net profit company right now, and you offer somebody a 15% discount for a service agreement, you are at a 0% net profit for service agreement people. Are you with me? So if you’re a 10% net profit company, and you offer a 15% discount, you’re losing 5% of revenue on that customer. So you have to keep in mind, when you calculate your breakeven, you’re calculating breakeven as if they own a service agreement.
Now one more word about adding for net profit: Your net profit requirement should probably be higher for your service department than your replacement department, and let me tell you why. Service is more difficult and more stressful to provide because it’s more labor intensive. The more labor intensive something is, the less fun it is to do it and the more money you should make. So for me, I have about a 20% requirement for service work, and I have about a 10% requirement for replacement work – half – because replacement work is much easier.
Now here’s a few rules of thumb to know if you’re priced too high or too low. Your technician should be averaging about $250 per ticket, or about $670 gross profit per day – or you’ll sometimes hear that referred to as $670 gross profit per man-day – and if you’re below those numbers, then you’re probably charging too little.
How do you know if you’re charging too much? Let’s say that you’ve calculated your breakeven and you’re way above that and you routinely get complaints about your price being too high. Let me reiterate that: You’ve calculated breakeven and you’re way above that and you’re constantly getting complaints that your prices are too high. Well that might mean that you’re charging too much. So, you might consider lowering your price, but you would never lower your price below breakeven, otherwise you’re a charitable organization, right?
But you’re not a charity, you’re a for-profit corporation, and you have to charge more than it costs you to provide the work. There’s no way around that. I think that about covers it.
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