This month I will drill down on the second and third rules with the focus on "engineering" profit into your business. 

First, we have to recognize that there are two sides to the sales process - selling and costing.  Your sales force will tell you that its all about "what the market will bear".  But you need to remember that costing tells you whether you want that business.  Proper costing allows you to design profit into your business and also to provide the basis to measure the effectiveness of your sales staff and to reward superior performance.

The best metrics always have balancing factors that prevent staff from "gaming" the system.  The classic measure of sales performance is revenue.  But a salesman who can also set price can sell an infinite amount of product at no profit.  So you must ensure that their sales are delivered at a prescribed profit margin. 

The price must not only cover direct costs but overhead as well.  Finally, it must add profit to the deal.  When these three factors are combined, you have the Minimum Acceptable Sale Price. 

You then turn your sales force loose to sell at whatever the market will bear (provided it is at or above the "floor").  The next step to generate higher profit is to increase the commission on jobs sold above the minimum acceptable sale price.  But if the salesman wants to sell below that point, he must discuss it with you.  Part of the discussion will be how much of his commission he is willing to give up to close the deal.  Then it becomes a business decision as to whether you take the business. 

One of my former cohorts had a saying that I have since stolen that goes: "None of my clients ever loses money by accident."  Good measurements provide the basis for good business decisions because you will know for certain what something is costing you. 

There are good business reasons to accept unprofitable work.  One of my clients spent $750,000 to steal a $4.5 million line of business from one of its competitor.  The line of business came with a 15 year contract.  The first year, they lost their shirt.  But subsequent years will pay off big time. 

Another client is a contractor in a part of the country that has been especially hit by the real estate bubble.  His residential business has quite simple disappeared.  But he has a large, long term project which he is using to allocate 100% of his overhead for the next 18 months. 

With his overhead covered, he is able to remove the overhead factor from his minimal acceptable sale price calculation.  Thus his sales force can compete directly against his desperate competitors who simply don't know what their business actually costs. He sets his floor at variable costs plus profit.  If a competitor wins the contract by bidding below that point, my client doesn't worry because he knows he can't deliver the service profitably.  By the way, neither can his competitors who will bleed red ink when they deliver.  It simply means that they will go out of business even faster.  But my client will be a survivor.   

Note that job costing implies that you know what things are actually costing you.  You need to know what your overhead percentage is.  You need to know what your fully burdened labor rate is.  You need to account for all of the miscellaneous expenses that tend to fall through the cracks. 

The final step is critical.  You need to track your delivery performance on the jobs you win and make improvements in future bids.  If you do, you will see a startling improvement in your profitability.

Let me know what you think.  Drop me a line at news@sigmapiconsulting.com