The Price is Right

The minutia involved in estimating and pricing remodeling jobs — particularly larger more complicated projects with a lot of design work — can be daunting.

Some remodelers use a cost-plus method with a straightforward, preannounced markup on everything they do. Others steer toward lump-sum invoices where markups, labor burdens, etc. are all part of the program. Lastly there are those who prefer to calculate their prices on a strict time-and-materials basis. There is, in fact, a lively debate among the remodeling intelligentsia ? those that are perennial attendees and speakers at industry events and members of business improvement peer-groups ? over which method of pricing is best. (See “Lump Sum Debate” on page 25 for further details.)

But regardless of which method or methods your company uses to price its services, success depends on finding the right price for you and the customer. There must be a balance between profit for the company and value for the customer that stands a company in good stead financially over the long haul as it increases its pool of satisfied customers willing to refer your company to others and who come back to you when they need more work done.

Anecdotally, the most successful remodeling firms use markups of anywhere between 1.55 and 1.90. This means that if labor, overhead and materials for a remodeling project cost $100,000, prices range between $155,000 and $190,000 for that project. This translates to a gross margin of anywhere between 30 percent and 48 percent. But building a price is not as simple as calculating your costs and multiplying by a preselected markup.

The best remodeling firms tend to calculate their prices based on three tiers of information. First, they become grounded in the bedrock of knowledge about potential remodeling customers in a local market. Second, they make a study of, and thoroughly understanding of the prices and value propositions offered by local competitors. And third, they typically have internal processes of developing prices that act as a system checks-and-balances that keeps the interests of both the client and the company in the forefront from contract signing to completion.

Neil Kelly’s new market
Among the nation’s blue-chip remodeling firms, Portland’s Neil Kelly Company stands as an example of a company with pricing systems that have stood the test of time. Founded in 1947, the full-service, design/build firm has grown into a 110-employee operation in its remodeling division, with another 30 employees in its separate cabinet-making operation. Last year, the company generated $10,165,000 on 658 jobs, a figure that includes its handyman services work.

Tom Kelly, president and CEO of the company, recently explained the analysis he and his team took with regard to pricing as part of the company’s strategic expansion into the Eugene, Ore. market, where they purchased an existing remodeling company and folded it into the firm. The pricing levels that the local market could potentially sustain were derived through a pro forma analysis of the area.

“For Eugene, we took a look at the whole market place and compared it to what we knew about Portland,” Kelly explains. “We looked at population numbers, household income, household ownership and compared those to Portland and came up with a thumbnail sketch of what we thought the remodeling potential was for the market.

“Since we were buying a business and knew our overhead, we drew up a model of how we were going to staff it, what kind of personnel, etc. With that we were able to forecast the amount of business that we thought we would be able to do and at what price. From that point of view we were not going to do pricing much more differently than what we were doing in Portland.

“If I was trying to come up with the right pricing structure for a new remodeling division or a remodeling company, I would set a goal for what I wanted in terms of net profit and put all of those numbers in and see where I landed.”

From there, assessing your company’s fit within the prevailing price structure of a remodeling marketplace is the second step.

Most remodeling markets ? even the ones with a dozen or so mature and professional remodeling companies actively selling their services ? include an array of players with a wide range of prices and markups. Typically, the higher the number of mature and professional players in a market, the greater the likelihood that sustainable net profit targets can be hit.

“In our business, there is a tremendous range of what the competitors’ price is, and that influences what your price is going to be,” notes Kelly. “At the same time, I don’t think we can be good business people and just respond to what the next guy is charging. There are always going to be people who are undercharging, people who are missing the mark because they just don’t understand business. We have a number of qualified remodelers in Portland who ? from what we can see competing against them ? are using markups equivalent to ours. I would say it is a change from what we saw in the past.”

At the Neil Kelly Company and other design/build firms, the final step in developing right prices involves the development of internal processes that guide salespeople and the project managers to work collaboratively to produce accurate estimates that are in-line with the company’s targeted net margins.

Designer/salesperson Martha Kerr started with the Neil Kelly Company 35 years ago as a temporary replacement for Mr. Kelly’s daughter, who had taken time off for a vacation. By the time his daughter returned from the vacation, Neil Kelly had found an additional full-time spot for Kerr to stay on with the company. Eventually she worked her way into designer and leadership roles with the company. Today she is a member of the National Kitchen and Bath Industry Association Hall of Fame, serves as executive vice president of the company, and is a full-time salesperson for the firm.

Kerr presently sells enough work to keep two project managers busy. And she is a strong advocate of the company’s long-standing estimating and pricing process which requires designers and project managers to work together to agree on a price.

“I think the approach that we take, team estimating, is the key to our success,” Kerr says. “The whole company is set up in teams. You have a designer/salesperson and a project manager on a team. You have the yin and the yang. By having both parts of the team, we are able to cover our bases. Each side sees things that the other might overlook. There might be an intricacy in the design that will cause additional labor, etc. I think the team approach in estimating has helped us both reduce the margin of error and providing our clients with a good, fair price.”

Like many design/build remodeling firms, the teams at Kelly typically invite each of the major trade contractors to provide a fixed-price estimate for the service they would provide on each job. Then, once the price has been presented to the customer in a lump sum format and the contract is signed, the production manager takes responsibility for managing the job finances and approving invoices. The designer/salesperson then checks each approved invoice to make sure that there weren’t any unforeseen cost variances.

Kerr notes that the company pays careful attention to how the teams are organized. Younger, less-experienced designers are teamed up with more experienced project managers and vice versa.

“The critical factor there with new people is to make sure that they are working with an experienced project manager, so that you don’t have the blind leading the blind,” says Kerr. “It also is a check and balance against people who have been bad apples. There have been those who have remodeled their house and charged the materials to a job. There are many opportunities for one to be dishonest if one is so inclined. I don’t approve any invoices that get charged to my job, the project manager does, but I review everything that has been charged to the job so I know it makes sense. I’d see problems if there were any.”

A range of markups
Tom Kelly says company policy is to mark up each component of each job. Labor gets marked up, so do all of the projects materials, etc. Exceptions are sometimes made for appliances. The salesperson has discretion to allow customers to purchase their own appliances or perhaps leave interior painting to an outside contractor to work separately with the customer. These are based customer preferences and the salesperson’s sense of what it will take to close a deal. Accuracy within the company’s targeted net margin for each project is rewarded with marginally higher commissions.

The company fares well in competitive situations, says Kelly, because they offer a good value proposition for clients with whom trust is a key determining factor. “They can trust the people we send to their homes. They can trust that we are going to finish the job on time. And after all of our years in business, they can trust we are going to be there for them when they have a problem years down the road.”

The company also has a 5 or 6 percent range of price allowances for larger jobs. This makes sense, says Kelly, because larger jobs do not require the same markup to achieve profit targets. It also makes sense competitively. The bigger jobs typically become more competitive.

“One thing that we do when we are strategically pricing is use a range. It is not a very large range, but we mark up larger accounts less than we do smaller accounts,” Kelly explains. “We do it based on competitive pressures. When we start putting really big markups on $700,000 jobs, it puts us in the stratosphere price-wise. If we mark up $400,000 in costs vs. $4,000 in costs, the scale of our management time involved in managing that $400,000 cost vs. that $4,000 cost is significantly different. In fact our costs are less on the bigger job, particularly from a project management perspective.”

Designer/salespersons have discretion within reason to adjust a price as well, but generally they stick with a standard pricing package. If a salesperson requests an adjustment to a price, Kelly will allow the adjustment only “if they agree that it is the one time this year that they will request the change.”

The company also manages for other contingencies like higher risk situations and designers who have a history of slightly underbidding projects. “We do put contingency numbers in our estimates as well to cover the things that we just did not see. We might put some extra money into labor just to make sure we are covered. Other than that, we are adamant about getting locked trade contractor pricing, so that we tighten up our numbers as much as possible.

“We actually set those kinds of contingencies based on the historical performance (accuracy) of the individual (salesperson). We don’t require them to have a contingency fee in their estimates, but if it is an individual whose numbers have not been as accurate, we will give them a range and it is somewhere between 2 percent and 5 percent on the cost.”

At the end of the day Tom Kelly thinks that company’s performance over time is a testament to these long-held pricing policies. Only on rare occasions has the company needed to manually adjust prices upward as most of their higher costs get passed along. A good current example the company is watching is insurance premiums. Like a lot of contracting companies, Neil Kelly’s general liability and mold insurance coverage have skyrocketed in recent years. Tom Kelly says his premiums are up over 400 percent since 1999. After several years of absorbing those higher premiums with no change to pricing, the company is just now carefully considering ways to recoup those costs.

“Portland had the highest unemployment in the United States two out of the last four years,” Kelly explains. “We faced some pretty formidable pressures just to get business, so we had not been talking about a price rise until now. Business is quite a bit better. Our volume is nearly double what it was two years ago, so we could absorb a lot of those costs.”