Contractor Marketing – 7 Critical Steps To Total Financial Fitness For Your Marketing & Advertising Budget
How to spend smart and kill the budget bleeders
By Michael Haines – Founder of ACDirect.com
The Guys (and Gals) On Shark Tank Would Love This
First, let’s forget the whole build a better mousetrap thing.
It no longer applies in today’s world.
Customers will not just magically beat a path to your door without the proper persuasion and placement of your business.
What matters is getting the word out. And we do that through advertising and marketing.
I think the worst advice you can follow is to just assign a random percentage of your gross revenue to advertising.
You may have been told that in the HVAC contracting business that you should spend 5%, or 8% or even 12% of your gross revenue on advertising. The reason this is a ridiculous notion is that it is arbitrary and doesn’t take into account how much net income you are actually earning on the products or services you advertise.
Spend a few minutes and run these calculations so you’ll know exactly how much you should spend on your marketing and advertising efforts, without guessing.
Know your profit numbers on the specific products or service you are advertising. You’ll accomplish this by calculating your costs. I’m going to assume you are an air conditioning contractor and you are advertising your ac repair services via PPC, or Google AdWords. (The ad medium doesn’t matter, just your profit margin percentage).
If this is more than you want to tackle, give it to your accountant or bookkeeper and they can figure it up for you, just make sure you get it done if you expect to have a workable marketing program.
For this discussion, we are going to assume that you want to advertise your air conditioning and heating repair services to homeowners. Here are the seven steps to determine precisely how much you can afford to spend on contractor marketing and advertising.
Step One – Determine the average revenue value of each service call your company runs
When calculating the average revenue value of your service calls, be sure to include those service calls that result in a system replacement. If the system sale was generated by the initial service request it should be counted as service income for your advertising budget purposes. (If you want to assign system sales revenue differently for your P&L, that’s fine).
Let’s say your typical service call results in average revenue of $750.
Step Two – Calculate your costs to generate this $750
I’m going to assume your average gross margin is 60% on service call revenue. This means your direct cost of goods sold (COGS) is 40%, or $300. Your gross profit is:
$750 – $300 = $450 gross profit.
This is an example of how you would arrive at your total costs for each service call:
The cost to generate the average revenue of $750 is broken down like this ($ shown are assumptions):
Direct labor cost* $65
Average cost of parts $180
Misc. materials used or consumed $20
Average monthly cost of your service vehicle divided by the number of service calls run $35
Total direct costs are $300, exactly 40% of the $750 average revenue
*the direct labor cost should be the result of dividing the service techs total monthly wage costs including bonuses, commissions, employee benefits, etc. by the average number of service calls the technician runs each month. Do not use his/her average hourly wage plus benefits as this does not account for his unpaid travel and non-productive time and will give you an inaccurate outcome.
Step three – Calculate your total fixed and variable overhead costs
These are the costs directly associated with the service side of your business. You calculate that by determining the total percentage of your overall gross sales revenue that is generated by service. Let’s assume that service is 50% of your gross revenue.
We will assume your total overhead including staff payroll (do not include the service techs in this as it is already counted in COGS), rent, utilities, insurance, etc. is $100,000 each month.
Now, multiply $100,000 by the percentage assigned to the service department, in this case, 50%.
$100,000 X .50 = $50,000
Step Four – determine how much overhead to assign to each service call
So $50,000 is the overhead costs we are going to assign to the service side of your business. Let’s assume you run 178 service calls on average each month. Now we can determine how much overhead to assign to each service call. We do that by dividing the overhead number ($50,000) by the average number of service calls run each month. For our calculations here, I will assume you run 178 service calls each month.
$50,000 divided by 178 = $281 average overhead cost per service call.
We now have 2 important items; our total costs and our gross profit which looks like this:
Average gross revenue for each service call – $750
Average COGS for each service call – $300
Average overhead assigned to each service call – $281
Step Five – Calculate your net profit after all expenses and overhead are assigned
$750 average gross revenue – $300 COGS – $281 assigned overhead expense = $169 average net profit on the average service call. Then calculate your net profit percentage like this:
$169 divided by $750 = 22.5% net profit
Step Six – figure exactly how much you can and should spend on marketing and advertising.
Now we have something specific to work with when we are determining how much we can spend on advertising. We know that if we want to advertise our air conditioning and heating repair service that we earn $169 net revenue on the specific service we want to advertise. So let’s figure exactly how much we can and should spend on your contractor marketing.
But first you need to get paid. Exactly how much of your total gross revenue do you want to keep in the end? 10%, 12%, 15% or 20%? You decide. I’m going to assume you understand how to make your ad spend work and generate profits above and beyond the actual ad costs themselves. I’ll also assume you want to aggressively advertise and still keep 12% for yourself, above and beyond your weekly wage.
So now I multiply the percentage I want to keep at the end of the year by my average gross revenue:
$750 X 12% = $90 for you
Next, I subtract the $90 for you from the total net profit of $169 and that leaves $79
$169 net profit – $90 for you = $79 you can spend to generate each new service call. $79 is 10.5% of $750 but at least we arrived at this percentage in a logical and rational manner, taking all important elements into account. Right about now you are probably thinking “It costs me a lot more than $79 to acquire a new service customer” and you may be right.
Step Seven – Determine the total gross revenue value of each new customer over 4 years
The one important variable in this whole equation is that it doesn’t take into account the total value of that new customer. “How’s that” you ask? By total value, I mean lifetime value.
Studies conducted by our industry show that the average lifetime value of a new service customer is about $700, on average. But this assumes that you sold the new customer an annual service agreement. If you didn’t, that number drops significantly and can’t be counted on.
This may be why other industry studies have shown that many contractors willingly (or unknowingly in many cases) spend as much as $300-$400 in marketing to obtain each new customer, which of course is insane unless they have an extremely high lifetime capture for a significant portion of their new customers.
You can afford to spend that on directly advertising your system replacement services, but not on the service side.
Now the question becomes how much are you willing to invest in marketing and advertising today to obtain possible future revenue for years to come? That of course, is totally up to you, but here’s a little guidance:
In his book HVAC Spells Wealth, Ron Smith provides the following benchmarks or KPI’s for service agreement conversion rates:
Minimum conversion rate by service technician from service calls to service agreements (excluding present service agreement customers, warranty, and callbacks – 25%
Minimum conversion rate by precision tune-up specialists from non-service agreement precision tune-ups to service agreements – 70%
The combined total here would be around 35% if you are following all best practices for converting service and tune-up calls to service agreements. For the benefit of this discussion, I’m going to assume you are diligently working to improve your conversion rates, and that currently you are converting service agreements at 20%. If this is indeed the case, you can adjust your gross revenue assumptions like this:
178 monthly service calls X 20% conversion rate = 36 new service agreement customers each month, or an additional $25,200 in second year income from the converted customers.
36 SA customers X $700 average annual value = $25,200
I can now take that figure, $25,200 and calculate how much that increases my average anticipated service call revenue. We know that we average 178 monthly service calls and that those calls converted to a service agreement will generate an additional $25,200 next year. So we simply divide $25,200 by 178 to determine our additional average service call revenue.
$25,200 divided by 178 calls = $141 anticipated additional next year’s revenue per each new service call acquired. Now, we add the $750 first year average service call gross revenue to this additional revenue:
$750 + $141 = $891 total current and anticipated second year revenue. I think it is reasonable to anticipate and calculate this revenue 4 years out:
Year one gross revenue per service call – $750
Year two gross revenue per service call – $750 + $141 = 891
Year three gross revenue per service call – $891 +$141 = $1032
Year four gross revenue per service call – $1032 + $141 = $1173
If you are converting your service calls at 20% these numbers are, overall and on average, very reliable. This means that each new service customer you acquire will have a total gross revenue value over the first 4 years of $1173. So it is easy to see why so many contractors go broke spending $300-$400 to acquire each new service customer.
If we use our earlier example of a net profit margin on service calls of 22.5%, this means we earn the following net profit dollars on each new customer the first 4 years:
$1173 X 22.5% = $264
Does anyone see where you can spend $300 to obtain this revenue? I certainly don’t. Here’s what we know for sure; we can spend 10.5% of our total current and anticipated gross revenue which is $1173.
There is one caveat here to consider; there are some contractors with average service call revenue (including system replacements generated by the service call) of $1500-$2000. If this is the case, these calculations will steer you down the right course and allow you to spend 2 or 3 times in contractor marketing and advertising costs versus what you could if your average service call revenue is $750.
$1173 X 10.5% = $123 total we can spend on advertising for each new service customer we obtain if we want to have 12% profit left over at the end of year. If you spend an additional 5%, it comes right out of your 12%. Double your spend on each new service customer to $246 and you will be working for wages, without any hope of a profit.
I will add one additional thought here and that is that if you are just getting started and don’t mind taking home just your weekly salary for the first several years, then by all means spend whatever you can on marketing and advertising to obtain as many new customers as possible.
Simply calculate your profit dollars just as we did here and that will tell what you can afford to spend on advertising and marketing.
You will need additional capital available to get you through the first few years of growing and maintaining your business but the proper amount of advertising is critical to most startup contractors.
This may seem a bit complicated but it is the only accurate way to determine your advertising g budget using a realistic formula. Ask your bookkeeper or account for assistance if necessary. If you have questions, call me at 407-459-8804 or email me at Info@tripleyourclicks.com
Question: Would your profits improve using this method rather than your typical approach? What else works well for you? Share your comments now
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