September 29, 2008 was a bad day for Wall Street (the largest single point drop in its history and the 17th worst percentage drop). This all unfolded as the House of Misrepresentatives failed to pass legislation designed to “save” the American economy from doom and gloom. I watched in sadness, then disgust, as members from both political Parties paraded to the microphones to blame the other, like 3rd grade school boys in a chest thumping contest on the playground. Eventually a bill was passed and signed into law, but as the wrapping comes off the package, it looks more and more like a huge load of Pork came with the bailout!
As I was listening to the events of September 29 unfolding on a local radio program, an air conditioning contractor called in to say that his suppliers were freezing all open account activity for the time being and that this was going to really hurt—maybe even destroy—his business. He said he had six homes waiting to be finished, each with roughly $15,000 worth of equipment and ductwork in them, and that he did not know now if he would ever be paid by the builders since their construction loans were also frozen. My heart went out to this guy, and his call got me to thinking.
How does a contractor survive in times like these?
That, in turn, led me to imagine a scenario involving a hypothetical contractor, who I will simply call Kamikaze Ken. He could be any contractor in American right now, but I will pretend he is an HVAC contractor trying to survive these turbulent times.
I want to walk you through a typical panic scenario and I’ll be using an Excel workbook I wrote that I call “The Projector” to do the math. (If you’d like a free copy, email firstname.lastname@example.org and ask and we shall provide).
I begin by setting up my workbook for Kamikaze Ken’s financial data—sales of $750,000, against cost of sales of $450,000, with overhead of $285,000 (leaving only $15,000 net profit—about 2%, a very typical, if not sad, figure for today).
Kamikaze Ken thinks, “Man, this economy is tanking! I’m running into bids from my normally sleazy competitors that are getting ridiculously low, even worse than normal. I’m losing my butt on bids lately. I’ve got to stay competitive. I must lower my prices. Gee, but how much?”
At this point, Kamikaze Ken rubs his chin and ponders this life-changing question. After an agonizing few seconds, he settles on 10%. He’ll cut his prices 10%.
I simulate this by entering a negative 10 (-10) in row 20 of the Pricing column of the “What If” sheet in the workbook. I then scroll down to see the results. As it turns out, Kamikaze Ken would go from a weak $15,000 net profit to a loss of $60,000!!! At this rate of blood-letting, Kamikaze Ken must sell almost 45% more work (or a little over $1 million) just to get back to making the $15,000 he made for sure last year!
Do you honestly think that would happen? Do you really think that a 10% cut in prices would bring in 45% more work in an economy where over half the HVAC contractors are flying their planes into the ground?
But this is what will happen to Kamikaze Ken because he let his heart rule his business and not his brains.
Now let’s run another scenario. I’ll reset Kamikaze Ken’s pricing on row 20 to 0% and this time, simulate a drop in business- let’s say, a 30% drop in business. (To do this, I type a minus 30 in the Volume column on line 20.) At first glance, Kamikaze Ken loses $57,900. So the question becomes, all things being equal, if his volume drops 30%, how much would his prices have to rise to net out $15,000 on the work he does get? (That is, what offsets his drop in volume so he makes the same profit he did last year?) The answer? Only 14%. That means he would have to sell a $5,000 job for $5,700.
That may seem like a tall order until you consider one of the factoids about the market: on average, 24% of the people shop on price and on price alone (low bidder wins, period). Another 17% shop on value (they’ll pay more to get what they is valuable to them). The other 56% can go either way. And research shows that they end up buying in the segment the sales person comes from. If the sales rep is a price-driven person, they’ll buy on price; if the sales person promotes value, they’ll buy on value.
The long and short of it is that to some people the market is price-driven. But to me, 17% plus 56% (or some 73% of it) is NOT! Those are the people I want to sell to. And to do that, I need to know how to sell a strong value-proposition, one my customers want. If Kamikaze Ken can figure that out, he can probably raise his prices 14% (or more), stop trying to sell to that 24% who wants low-ball prices all the time, and make as much as he did last year on 30% less work this year.
But he’ll need to learn how to sell a strong value-proposition. And for that, I refer to you Mr. Hinshaw’s column in this prestigious journal!
Send questions for Mr. Harshaw to LLACKEY@AC-TODAY.COM