CMX 2004 - Plumbing & HVAC

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Shop Management Develop a financial structure that works Our business guru crunches the numbers By Ron Coleman Many contractors have difficulty understanding what their financial structure should look like. That may not be too surprising, given that it is different for each segment of the industry. Even within segments there are major differences depending on size and work mix. The following commentary is based on a survey of 25 members of the Heating, Refrigeration and Air Conditioning Contractors (HRAC) Association of Canada. The average company had sales of $1.27 million, with no company over $2 million. There is a combination of service and contracting work. We have not established what that mix is. The contractors are based across Canada, with most of them in Ontario. This particular group of contractors shows pre-tax profits at 5.7 percent, which is almost 50 percent higher than the average North American contractor in this market segment. The issues that we will explore are: • What is the typical overhead structure of these companies? • What is the level of break-even sales required to operate them? • How to reduce the level of breakeven sales and … • What is the capital structure of these companies? The following table shows the average overhead structure: Income Statement Average of 25 companies $1000s Total Sales 1270 100.0% Job Costs Materials 565 44.5% direct labour 216 17.0% Subs & other direct 16 1.3% TOTAL DIRECT 797 62.8% Gross Profit 473 37.2% Overhead Salaries* 196 15.4% Advertising & promotion 23 1.8% Vehicles 44 3.5% Depreciation 22 1.7% Insurance 15 1.2% Occupancy 28 2.2% Office and admin 59 4.6% Repairs, shop supplies etc 13 1.0% 400 31.5% Net Profit 73 5.7% Note: Salaries include owner/manager at $75,000 per annum make a real impact on them. Most of them are virtually fixed. If you can’t do much to lower your overhead there are only three things you can do to make more profit – increase volume, increase selling price or improve productivity. However, a volume increase means more cost, while the other two options are 100% profit. Going for volume often means lower selling prices, expensive marketing, poorer productivity and higher overhead. So, it makes sense to focus on selling price and productivity. Increasing efficiency or increasing your selling price has the biggest impact. Your gross profit percent will increase. Your break-even sales number is calculated by dividing your overhead by your gross profit percent. Lowering your overhead or increasing your gross profit reduces the amount of sales you need to break even. You will see from the table that by increasing your gross margin from 37.2% of sales to 44% of sales that your additional profit is $164,905, or the amount you need to break-even is $164,905 less. You should be easily able to generate this increase in percentage by a combination of increased pricing and improved productivity. A typical balance sheet looks like this: Balance Sheet Average of 25 companies Current assets $1000s Cash 70 Receivables 121 Inventory 113 Other 12 316 Capital (Fixed) assets Vehicles & Equipment, at cost 284 Depreciation -173 Net capital assets 111 Total assets 427 Current liabilities Accounts payable 112 Bank debt 34 Other current 30 176 Term debt 40 If you lease your vehicles Break-even table rather than buying them, your cash outgoings Overhead $400,000 $400,000 $400,000 will be higher and Gross profit 37.2% 40.0% 44.0% your investment lower. It is very difficult to reduce your Break-even sales $1,073,996 $1,000,000 $909,091 On average these companies are turning over overhead. Overhead represents a relatively small percent of sales and, as you their working capital at a Additional profit $164,905 can see, it is difficult to cut back. The rate of almost ten times a year. only area of significance that you could Capital structure Working capital is the net of the current reduce would be to reduce overhead So, if you want to set up a company like assets and current liabilities salaries. When you look at your own this, you need to put some money ($316,000-$176,000 = $140,000). numbers, you will realize how difficult together. Annual sales are $1,270,000. Divide this really is. You need to buy or lease vehicles, working capital into sales and in this In our sample we are showing overhead equipment and tools. You need to instance you get 9.2 turns a year. On this of $400,000 with almost half of finance the activities such as the inven- basis you need to provide approximate- that in salaries. The rest is spread over tory and the receivables and you must ly 10% of your expected sales in working so many categories that it is difficult to meet the payroll. capital for your business. That is the money to operate the business, excluding Why is this man smiling? the money for fixed assets. This is money that you have to provide. Our average owner has invested Reason $211,000 in his company, or approximately $1 in investment for every $1 in #7 debt. These companies are very well financed. This $211,000 is (broadly Member Advantage speaking) providing $140,000 in working capital and $51,000 for fixed (capi- Programs HRAC membership means this man's tal) assets. company enjoys access to a variety of If you start up a new business, groupdiscount programs. Savings on remember that it is going to take up to vehicle leasing, business supplies, fuel for three years before you can turn a profit his company's trucks and Visa Merchant fees will more than pay for his company's and take a full salary. Many business membership. These are only a few of the owners run out of money before they saving programs offered by HRAC. have given the company a real chance to So, why is this man smiling? survive. For many start-up businesses the growth has to be financed by profits. So, Because his company is a unless you start off making money you member of HRAC. will never be able to finance your You should be to! growth. Ronald Coleman is an accountant, business management consultant, author and educator specializing in the construction 1-800-267-2231 www.hrai.ca/hrac.html industry. He can be reached at rcoleman@coleman.bc.ca. Circle Number 175 for More Information Circle Number 176 for More Information 70 Plumbing & HVAC Product News – March/April 2004 www.plumbingandhvac.ca Total debt Owner's investment 211 Total liabilities and investment 427
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Volume 14 Number 2 March/April 2004
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In This Issue Special Feature: The
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Hot Seat Know your customer Acommon
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Industry News Low flush revisited T
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Industry News In Brief (continued f
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Letters Hydronic heating efficienci
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You’ll Be Proud To Install One Of
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Cover Story The UOIT well field. Un
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Drain Tech There are specialty nozz
Page 19 and 20: Heating Mid-efficient furnace The P
Page 21 and 22: Instant hot water The Pronto RTG-42
Page 23 and 24: Ventilation Air conditioner The Sma
Page 25 and 26: Refrigeration Fast charging manifol
Page 27 and 28: Advertising Supplement
Page 29 and 30: A.M.T.S. Canada Limited Proven qual
Page 31 and 32: Copeland Canada Look for certificat
Page 33 and 34: Flexible Eutectic You have to love
Page 35 and 36: ISH NORTH AMERICA 2004 ISH NORTH AM
Page 37 and 38: KeepRite Refrigeration - The Right
Page 39 and 40: MITS MEANS THE BEST! Specializing i
Page 41 and 42: Moen Inc. High tech faucet has low
Page 43 and 44: NTI Inc. Trinity boiler is quietly
Page 45 and 46: Redmond/Williams Distributing Amana
Page 47 and 48: Looking for… ◗ New Plumbing or
Page 49 and 50: Viessmann Manufacturing Company Inc
Page 51 and 52: Weil-McLain Canada Win ultimate toy
Page 53 and 54: Building Wolseley from the branch u
Page 55 and 56: Trucks for the Trade Truck Graphics
Page 57 and 58: Circle Number 161 for More Informat
Page 59 and 60: Faucets & Fixtures Programmable fau
Page 61 and 62: Tools & Instruments Jobsite estimat
Page 63 and 64: Atofina Canada Inc. 1007/1009 Bacha
Page 65 and 66: Western Update In Brief Calgary to
Page 67 and 68: Coming Events World Building Congre
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