Contractors incur two types of operational business costs: tangible and intangible. Tangible costs can be best defined as those with a certain and precise cost per unit, such as a gallon of vehicle fuel, the price of the vehicle and the insurance necessary to operate the vehicle legally.

Intangible costs are not as specific in description and cost to contractors. This column pertains to one of those intangible costs: unapplied labor. This refers to the hours that field staff are on the clock, but cannot bill customers for their time.

In the contracting business, contractors use hours to determine the cost of tasks they propose to perform for consumers. That means they must properly calculate their estimated cost per technician hour as it pertains to the expenses proportionately associated with the labor and overhead expenses of the task. This is used to quote a price that will allow them to recover the costs they perceive they will incur to perform the task. 

Once contractors properly calculate their true operational business costs, in totality, they can determine their true cost of labor and overhead per technician hour.

If you think that you do not calculate the cost of labor and overhead by the hour because you calculate your estimated job costs by the day, week, month or year, keep in mind that days, weeks, months and years are made up of hours.

Therefore, it is necessary to know the maximum number of potential revenue-producing hours you have in any fiscal period per technician. This allows you to recover your true operational costs to perform any tasks.

Once you have calculated your total true operational business costs for a fiscal period, you can arrive at your true operational business costs per technician hour by dividing your total true operational business costs by your maximum number of potential revenue-producing hours.

For example, in a five-day, 40-hour, 52-week year with two weeks vacation/personal time, six holidays off and 244 hours lost to nonrevenue-producing tech hours, each tech has only 1,708 potential revenue-producing hours.

The total true operational business costs of contractors in the United States will vary dependent upon varying salaries with different cost-of-living conditions in any area, real estate values affecting the cost of renting or buying properties from which to run the contracting business, the cost of services the contracting business needs to purchase to run the contracting business, and any other expense factor causing variability.

Labor and overhead cost calculations

I firmly believe that the minimum annual labor/overhead cost to a U.S. home services contracting business for one qualified technician and one properly equipped and inventoried service vehicle is $170,800. That’s the number I will use in my example to explain the “cost and effect” of the unapplied labor factor. 

Remember that it is the minimum labor/overhead cost for one tech/service vehicle. Use the number it will cost your business; your cost may very well be higher.

The example is $170,800 ÷ 1,708 maximum potential revenue-producing hours per tech annually = a labor/overhead cost to the contracting business of $100 per tech/truck hour if all potential revenue-producing hours are sold all the time.

Unfortunately, no contractor sells all the potential revenue-producing hours in any fiscal period per technician all the time. Business activity fluctuates, and that’s where the unapplied labor factor raises its ugly head.

Chart 1 shows the effect on your labor/overhead cost. As you sell fewer hours, the hourly labor/overhead cost to you, the contractor, increases.

The chart shows that at 1,708 hours sold, the selling price for one hour with a 10% profit margin is constant at $111.11. In this instance, $11.11 of profit was above the contractor cost of $100 — $11.11 of profit divided by the selling price of $111.11 equals 10%. The chart also indicates that $18.975.88 was made for that year. 

However, when you sell fewer hours, the annual revenue decreases as the number of hours sold decreases. 

If only 1,608 hours were sold at $111.11, the annual gross sales would only be $178,664.88. The result is a profit of only $7,864.88.

At 1,508 hours sold annually, there is no profit, only a loss of $3,246.12.

And that is an example of the cost and effect of unapplied labor.

To rectify this problem, you must use a profit margin higher than 10%. Chart 2 shows everything is the same except the profit margin. The profit margin of 20% shows that even if you sell only 1,408 hours, you will earn an annual profit of $5,200.

With a 30% profit margin (Chart 3), you would earn a profit of $1,774.88.

Please remember that there is a cost and effect of unapplied labor. Also, please calculate your numbers properly and profitably.