How do I know if I'm pricing my construction jobs right?
Understand the difference between markup & margin to improve your job costing
Our bookkeeping & consulting services can help your construction business increase profitability.
The #1 most common mistake contractors make is confusing markup with margin.
Markup is the amount added to the cost of a product to determine the price you need to charge to cover all costs and make a profit. Markup is best thought of as a multiple of your costs. Ex: 1.5x or “Direct costs X 1.5”.
Margin (also known as gross margin or gross profit) is the revenue remaining after direct costs or cost of goods sold have been paid, but prior to excluding overhead costs. Margin is best thought of as a percentage of revenue. Ex: If cost of goods sold is 65%, then my gross profit is 35%.
Confusing markup and margin can cause poor pricing and lead to losing money on the job. The Giersch Group has experience helping members of NARI and ASID throughout the Milwaukee metro area gain financial clarity to improve the profitability of their construction industry business.
Contractor bookkeeping is not like bookkeeping for most other businesses. When contractors make decisions based on inaccurate financial reporting it can cost them far more than they would have paid a professional bookkeeper. We work with small business owners all the time. They can afford our services and so you can you.
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How to Calculate Profit Margin on a Construction Job
Here’s how it works. Let’s say at the end of Year 1, ABC Company has $100,000 in revenues. It’s cost of goods sold was $65,000 or 65% of revenue, and therefore its gross margin was $35,000 or 35% of revenue. So we have a “margin” of 35%.
Now the owner of ABC company, let’s call him Ed, is excited about this profitability and does the exact same amount and type of work in Year 2, but incorrectly uses his gross margin as the percentage he is going to mark things up. He confuses mark-up with margin and marks up his costs by 1.35x in Year 2.
In Year 2, Ed loses money on the same amount and type of work. He actually has a $12,000 swing from $10,000 of profit to over $2000 of loss. This is because he confused margin for markup and underpriced his jobs.
At this point we could get into some serious math as to why this is, or, we could just refer to the table below which shows us that to get a margin of 35% you actually have to mark it up 54% -- or 1.54x. Remember, better to think of mark-up as a multiplier.
Average General Contractor Markup
To keep things easy, here’s a handy markup & margin table for contractors that shows you how much you need to mark things up to achieve your desired profit margin. Most general contractors are looking at about a 35% margin and so they need to a mark-up of 54%, or 1.54. Subs can often get a profit margin of 50%, so they need a mark-up of 100% or 2x, as the table on the right makes clear.
One way of thinking about the difference between mark-up and margin is to remember that your mark-up has to account for more than just your direct costs (COGS). You also have to cover overhead and make a profit. For this reason, you need to understand what percentage of revenue your overhead is eating up, and what percentage of revenue you want to keep as profit.
For some contractors, they have 35% gross profit and 25% goes to overhead and 10% is left in the company. This is called creating a business model and it’s one of the first things you should do when you go into business. The Giersch Group can help you understand your margins, the necessary mark-up and other ways to improve your pricing and ensure profitability.
Things to Remember:
- Margin and markup are two different things which are directly related, but cannot be used interchangeably.
- Your numbers are your numbers. Once you markup has been determined for profitability, that is the number that should be used for every project. Lowering the price to win the job is how many contractors lose money.
- Know your costs. If you’ve been in business for awhile, go back to the financials and get an average for your overhead expenses. Accounting for overhead expenses is critical in calculating the correct markup.
- Overhead cannot be calculated based on job costs. The wrong way to calculate this is on a per job basis with percentages of the job costs. Rather, it needs to be based on a percentage of total revenue.
Construction Job Costing in QuickBooks Online
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The Giersch Group has experience working with many members of NARI and ASID throughout the Milwaukee metro area. Our team has the experience required to hit the ground running and give construction industry professionals the impeccable bookkeeping and insightful reporting they need to make good decisions. We can get you set up and trained in QuickBooks™ or take over your bookkeeping entirely depending on the level of support you need.
Contact our construction accounting professionals to get job costing help and a free consultation today.