Return on Expense
Conventional wisdom suggests there are only three ways to increase profit in a business like yours or mine.
You can increase sales, increase your margins, or reduce your expenses. It makes sense.
If you sell more stuff and everything remains constant with regard to cost and revenue, you will almost certainly make more.
If you increase your margins—the difference between what something costs you and what you are able to sell it for—you are sure to increase profits.
Unfortunately, for far too many shop owners, that generally means looking for less expensive products, leaning on your suppliers for deeper discounts or pushing your techs to do more for less.
The problem inherent in seeking out less expensive products and practitioners is self-evident. Cheap parts and cheap technicians will definitely increase profits for a little while, but they can’t and won’t increase profits indefinitely.
That leads us to the final way conventional wisdom suggests you can increase profits—expense reduction. It’s hard to argue with that. The need to control cost is also self-evident and controlling cost generally translates to reducing your expenses. And, every dollar saved sinks right to your bottom line. Even if it doesn’t show up at the bottom of your profit and loss statement, it will show up someplace else. But the inherent problem with continually reducing expenses is that it is a well you can only go to so often before it runs dry.
I’ve never been a big fan of conventional wisdom. It allows us to stop searching for answers long before all the possible answers are revealed. That’s why I’ve always tried to see if there is anything more there—something hidden, something less than the obvious. That led me to a fourth way to increase profits: recovering expenses.
Simply speaking, you recover an expense by identifying it, reframing it as an investment, determining a reasonable term and return, then amortizing the total of that investment and return over the term. The example I’m most comfortable with is training. It is an expense most shop owners recognize as critically important and yet only a minority of shop owners seems willing to make it.
But, what would happen if you reclassified the dollars you have to spend on training and redefined it as an investment? As an expense, your first impulse would be to reduce it! As an investment, however, the opposite is true—you want the dollars you invest in anything to increase; to grow and pay a dividend!
And, that’s where the unconventional wisdom of recovering expense blossoms. For most of the industry, training is an expense: a critical and costly expense, but an expense nonetheless. But, what happens when we re-classify training as an investment?
The first thing that happens is the appearance of a completely different set of questions. Instead of trying to figure out where to cut or how much we can eliminate from our budget, we start asking ourselves how much we are willing to invest, what kind of return is possible and how long we are willing to wait for our return.
For our purposes, let’s say the investment in training is $2,000. That’s a lot of money that could be used in many different areas of the business, but you’ve decided that investing it in training is worth it, as long as it provides an above average return on your investment.
Training is a great example because education is the gift that keeps on giving. Nevertheless, you’ve decided you want a 20 percent return on your investment and you want it returned in one year. That’s a total investment and return of $2,400.
The average technician works between 2,000 and 2,500 hours per year. If you want your $2,400 investment returned in one year, all you have to do is divide the amount ($2,400) by the number of hours. In the case of a 2,000-hour work year, that would be $1.20. Then add that $1.20 to your hourly labor rate for that one technician for the year: one tech x 2,000 hours = 2,000 tech hours x $1.20 = $2,400.
Increase the labor rate for techs working 2,500 hours per year by $.96 per hour and you enjoy the same rate of return.
What do you do if your tech is only billing 70 percent of your available hours? Factor the formula by the technician’s productivity.
A tech is on site 2,000 hours, but only billing 1,400 (2,000 x .70 = 1,400 billable tech hours). Divide $2,400 by 1,400 billable tech hours and all you have to do is increase your labor rate by $1.72 for that technician (for one year).
Will a client or potential client ever notice the increase? Not likely—not when that increase isn’t likely to constitute more than a two- or three-dollar increase per invoice. Not a bad term, not a bad investment, not a bad way to re-evaluate.
Will you remove the increase from that tech’s labor rate at the end of the year? Probably not. Is it conventional? No. Is it effective? Absolutely! Is it wrong? Absolutely not!
You’ll have those dollars to invest in additional training or something else the shop will need in the future. A better future.