Flat Rate's Problem
August 15, 2005
THE PROBLEM WITH FLAT RATE
By: Matt Michel
There are many advantages to using a price book. It’s faster and easier for technicians to figure up the total cost of the job. It presents total pricing, not separate labor and materials pricing. It’s preferred by nearly all customers.
The Problem With Flat Rate
There’s lots of pluses, but there’s one big minus. You’ve got to maintain your flat rate system.
You can maintain your price books two ways. You can purchase someone else’s flat rate system or you can DIY it. My personal recommendation is to use a professional service. Flat rate is their business, which means they will be better at than you.
Aside from the value of your time, when you maintain a system on your own, there are nickels and dimes of profit you will inevitably miss. The nickels and dimes add up. It’s sort of like investing in a mutual fund versus buying stocks on your own. Sure, the mutual fund includes a management fee, but the fund managers are usually better investors than you, as an individual, managing your money on a part time basis.
Updating Will Cost Time or It Will Cost Money
Whether you use a service or build your own flat rate system, the one problem with flat rate is updates. When you build your own system you probably start with the best of intentions about updating. In fact, this may be part of your rationale for building your own system. Good intentions notwithstanding, few companies update as often as they should. There are too many fires erupting.
Companies that purchase a system seem to be even more reticent about updating. After all, updating costs money. This is foolish. Updating does not cost money. It makes money.
Less Than Half Update Annually
I asked several flat rate providers what percentage of their customer base updates on an annual basis. It’s less than half!
“But I Just Increased Prices a Year Ago!”
If a company is new to flat rate, the owner probably bumped the company’s pricing significantly when he switched from time and materials pricing. He may hesitate to follow this increase with another one. He shouldn’t.
If the owner subscribes to a flat rate service, he undoubtedly received help in calculating the correct labor price and materials mark-up. A price was calculated based on company costs, plus a fair return. Usually, this is more than he charged on an hourly rate basis because 1) there are fewer hidden price games being played (see “Still Not Flat Rate?”) and 2) the owner finally stopped subsidizing his customers. In other words, the price was set with a purpose, based on company costs *at that time.*
What’s happened in the following year? Have costs increased or decreased? What’s happened to the cost of materials? Insurance? Labor? Fuel?
If costs have increased, the price is no longer correct. The owner is starting to subsidize his customers again. Pricing must be updated.
“It’s Too Expensive.”
Some put off updates because the books are expensive. Let’s take a 10 truck service company. If the company subscribes to a flat rate service, it probably costs $2,000 to update and print 10 price books (some services cost more and others cost less). Because it costs $2,000, the owner hesitates. The owner thinks, why not put it off for another year and save the money?
Pardon me while I scream for a second…
Assume the company charges $150 per hour (it could be more or less). Each truck bills an average of 1,000 hours per year. Thus, the billable service labor portion of this company’s revenue is $150,000 annually. This does not include material charges or installation work.
According to inflationdata.com, the average inflation rate in 2004 was 2.68%. That’s low, but it’s not insignificant. If the owner increased is prices by 2.68%, the billable service labor portion of the company’s revenue would increase from $150,000 to $154,020. In other words, company should be charging $4,020 more during the course of the year, just to keep up.
By not updating, the owner has lost $4,000 vs. the $2,000 cost of the update. If the owner builds the $2,000 cost of annual updates into the manual's prices, he can stop worrying about the cost and not suffer from the profit eroding effects of inflation.
Price Ahead of the Game
Of course, updating based on last year’s inflation rate is a losing strategy. You’re always a year behind and playing catch up. Price based on projected average costs for the coming year. Given that December’s inflation rate was 3.26%, it’s not unreasonable to bump prices 5% to 7% to keep up with last year’s inflation and 2005’s inflation.
In my opinion, annual price book updates are not frequent enough. You should update every six months or so. Most flat rate companies will give you a discount if you update twice a year. It’s worth it. Remember, the payback is only a few weeks.
Of course, the *majority* of companies fail to even make annual updates. And that’s the problem with flat rate.
Source: Comanche Marketing. Reprinted by permission.
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Copyright © 2005 Matt Michel
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