Are You Increasing Your Prices Enough?

pphoto-businessman-hand-examining-financial-charts-using-calculator

We’ve seen a significant uptick in inflationary pressure across the country, with no signs of it abating.  Labor increases are driving all costs up, so now is the time to manage your margins diligently — and to determine if you’re increasing your prices enough.

Gross Margin and Labor Efficiency

Gross profit is revenue less any direct material costs, including subcontracted work.  For a construction company, for example, direct material costs would be sticks and bricks as well as subcontractors.  The remainder is your gross profit.

I’m a subscriber to Greg Crabtree’s Simple Numbers concept, which relies heavily on maximizing labor efficiency.  Most small- and medium-sized businesses do not track or monitor this number, but it is a simple concept.  Direct Labor Efficiency (as opposed to administrative or marketing labor) is your gross profit divided by your total labor costs (including benefits and taxes). For example, if your gross profit for the period is $3MM and your direct labor costs are $1.5MM, your labor efficiency ratio would be 2.0.

A good target for Direct Labor Efficiency is 2.75, but that will vary by industry.  Consider benchmarking your numbers against industry averages to start.

Gross Margin is a related metric that is the percentage of your direct materials and direct labor to revenue. For instance, if your revenue for a period was $4MM and your direct materials plus direct labor is $2.5MM, then your Gross Margin Percentage is 37.5%.  Although gross margin is important to monitor, normally, you don’t have as much control over your vendor pricing as you do with maximizing your labor.  That is why we recommend focusing on maximizing Labor Efficiency.

How to Maximize Labor Efficiency

There are a number of strategies to maximize labor efficiency. However, my experience leans towards involving your operations/production team in solving the problem and incentivizing them based upon the results.  Top-down approaches don’t usually work as well as letting people solve the problem themselves.

Give them a clear understanding of the problem they’re trying to solve.  In these instances, I recommend breaking the problem down to an as granular level as possible.  For instance, don’t simply identify one location that has better labor efficiency than another and say fix it.  Go to the shop floor, find the differences, and solve those problems.

Pricing As a Strategy

More than likely, you have some discretion in increasing your prices immediately.  Analyze your customers by gross margin and unload the bottom 10-20% of them.  Most of the time, you will find that you have large volume customers that aren’t contributing much margin.

Reciprocally, you have the top 10-20% of your customers that will pay you more.  Have conversations with them to determine if there are any revenue opportunities (e.g., items/services that are ancillary but you don’t currently offer). Combining those two actions will have a tremendous impact on your gross profit and bottom line.

Should you need help in executing your financial growth, consider outsourcing a fractional CFO to guide your team through the business growth process. Learn more about fractional leadership here.

About the Author

As CEO of Core Group, a profit-first business and financial services firm, and a Forbes Business Council member, Christian Brim and his team help companies grow their business while saving taxes. To learn more, contact Christian on LinkedIn or visit coregroupus.com.

Mergers and Acquisitions — Selling Your Small Business

stock-vector-selling-business-b-b-or-business-to-business-deal-selling-agreement-business-investing

stock-vector-selling-business-b-b-or-business-to-business-deal-selling-agreement-business-investing

Your fiercest competitor has just submitted a letter of intent to acquire your business. How do you respond? Is the offer a good one? Is it the right time to sell? What are customary terms and deal processes? If you’re like approximately 90 percent of business owners out there, you’ve never been involved with the sale of a business (particularly your own). You would likely have a host of questions similar to these.

Business sale or sell-side mergers and acquisitions (M&A) transactions are “unique beasts,” and the stakes are too high to go it alone or enter the fray without the proper advisors.

If you’re prudent and well prepared for a sale, you can avoid the mistakes that befall many an unsuspecting seller. These can include an outsized strain on your day-to-day operations, suboptimal deal terms and value (i.e., lower sales price and unattractive terms), and an inefficient deal process. Remember that it is critical to communicate — whether orally, in writing, or through the sharing of company information — with intention and that “time kills deals.”

Hiring a Fractional Leader Can Optimize Your Business for Sale

Working with experienced fractional leadership (CMO, CSO, COO, etc.) months or years ahead of a prospective transaction — whether vaguely conceptual or immediately actionable — can supplement your core team. Domain experts can supercharge your operations and optimize the value and attractiveness of your business.

Additionally, a Fractional CFO experienced in M&A can provide transaction-related guidance alongside ongoing strategic financial oversight. When the time comes to “go to market” (proactively pursue a sales process) or respond to the unsolicited acquisition offer, you’ll have experienced advisors on hand. And you will be prepared with financial results and operating data tailored to your audience of third-party investors and acquirers.

Regardless of whether a transaction is ultimately pursued or consummated, by going through the process, you’ll likely have received outsized value in the form of a more sustainably profitable and well-run business.

About the Author

Landon Mizuguchi has over 15 years of experience encompassing M&A, general management, corporate finance, and valuation, with preeminent professional services firms such as Goldman, Sachs & Co. and EY (formerly Ernst & Young). As principal of Malama Capital Advisory, he provides Fractional CFO and M&A advisory services to West Coast-based SMBs and hyper-growth startups. Contact Landon here.