If the Pricing is Right, Why Does the Margin Keep Coming in Short?

HVAC business owner Bob has made a lot of progress on ensuring the jobs his company offers are priced correctly. However, something still isn't adding up: his margins are still coming in short.

"But how can this be?" Bob asks himself. "I've corrected my labor costs, billed for my materials, and included my overhead in the quotes. Why don't the finances show that?"

There are three we commonly see execution eroding correctly quoted margins, the first being outdated material pricing at the time of install.

Outdated Material Pricing at the Time of Install

Companies rely on bidders to provide them with accurate information on the cost of materials, labor, overhead, and other costs on every job they bid on. However, some business owners find that the actual cost of the job exceeds the estimate. One thing we often see that contributes to this is that the bidder had outdated material pricing when the job was bid. For example, the bidder Bob uses estimates that a new boiler will cost $5,000, and puts that price in the estimate. However, after the job is completed, it's discovered that the boiler actually cost $5,500, so Bob's company spent an extra $500 on this boiler.

Here's how this price change affects the profit margin for Bob's $20,000 job. If this job's overall budgeted costs were $15,000, Bob would have a nice $5,000 profit, of 25%. However, with the increased cost of $500 the profit margin drops, and Bob has lost 10% of his expected profit. Mistakes like this that compound over numerous jobs the company bids on drains the company's bank account. Running each estimate through our HVAC Job Costing Calculator makes those gaps easier to catch before the job is billed.

Inefficient Time Accounting: Drive Time, Callbacks, Setup, and Teardown

As we discussed in our blog post "Time and Material Costs: The Pricing Gap That Quietly Kills Margin", there are several ways crew time is inefficiently accounted for, one being in drive time. If technicians drive from a job in one area of the company's district to a job in an area on the other side of the district, this increases technicians' travel time. Bob realized that his technicians were doing this on a daily basis.

Another area in which this appears is callbacks. A callback is when a technician has to go back to a job site after the work was supposedly finished, because something wasn't done right the first time. Here are some examples: a mini-split that's short-cycling after install, a thermostat that's not communicating with the new system, a refrigerant leak that shows up a few days after a swap-out, or a duct connection that wasn't sealed properly and now the customer's complaining about airflow. This results in the company paying more for labor and materials than were originally estimated. However, companies don't bill customers, because they consider this as "fixing our own mistake."

Last but not least is setup and teardown. Setting up and tearing down are part of all jobs, but even those can cause crew inefficiencies. Some technicians may set up, start a job, and then tear down without finishing it for a variety of reasons. However, when they come back to finish the job, they have to set up and tear down again, which adds more time to the project.

How does poor time accounting affect the profit margin? Bob discovered that his company has had a dozen callbacks in the past month alone that customers weren't billed for. Upon reviewing the documents more closely, he realized that, while the company made $75,000 before labor, overhead, etc., the company ate an extra $15,000 in labor costs due to the call backs, which, in effect, costs the company 20% of their profits.

Undocumented Change Orders During the Job

A change order, or customer request mid project, that changes the original scope of work after the job has started often go undocumented, and therefore unbilled. Examples often include the customer wanting to add an extra vent, the crew discovering the ductwork behind a wall is in worse shape than expected and needs extra work, code requiring an upgraded disconnect that wasn't in the original quote, etc. Change is normal in real jobs. The problem isn't the change itself, however: it's when it's undocumented, meaning the extra work gets done on the fly without formally re-quoting it, getting sign-off, and billing for it.

Undocumented change orders usually get absorbed as "part of the job" out of habit or to avoid an awkward conversation with the customer. The crew just does the extra work because it's in front of them and it's easier than stopping to document everything on paper. But that extra material and labor was never included in the original quote, so every hour of unbilled "extra" work directly eats into the margin the estimator built in. Over many jobs, this becomes a real leak not because any one job blew up, but because small unbilled additions happen consistently and never get captured or billed.

As Bob compared job estimates with their final invoices, he realized that there were many jobs where changes had been added but that customers were not billed for the time or additional materials.

Bringing it All Together

Bob goes back to compare his quoted margins with the actual margins, and discovers that the gap is more than 5%. Upon digging deeper and realizing some of the things mentioned above, he implemented new policies. First, he asked his vendors to provide updated material pricing on a quarterly basis. Second, he ensured that jobs in the same area his company's service district were scheduled on the same day to decrease their travel time. Finally, he instigated a new policy that, if a customer wants to add additional work to a job, it needs to be documented, sent to the office to be quoted, the customer needs to be informed of and approve the price change, and the job must be rebilled with the approved changes.

Call to Action

Review your last 5 completed jobs. Compare quoted margin to actual margin. If the gap is more than 5%, identify which of the 3 execution gaps—outdated material pricing, crew inefficiency, and undocumented change orders—caused it, and implement procedures and policies to correct these issues. Our Gross Margin Calculator can help you compare the two side by side.

If you need additional assistance, book a complimentary consultation with Joseph.

Disclaimer: The information in this post is intended for general guidance purposes. For advice specific to your business finances or taxes, consult a licensed accountant or financial advisor.