March, 2008

Profiting from Installed Sales

However you choose to embrace this opportunity, it's time to make installed sales a core part of your business.

By Paul Bumblauskas

As the economy weakens, the impact on lumber and building material dealers is undeniable. But there are still a few ways enterprising dealers can wrest more profit out of a declining customer base. One of the most important is through installed sales.

As a consultant serving the LBM industry, I’ve found that the subject of developing or optimizing installed sales is of universal interest.

But LBM dealers do have plenty of questions: How do we optimize our profits in this arena? What about risk assessment? Does a road map exist to help guide dealers who are just starting to consider the prospect of installed sales, or for dealers who want to expand in this area?

Any company can provide installation services. The difficult part is to provide these services at acceptable service levels for your customers, at a proper profit margin, and without undue risk to your company. That means you need to understand that installed sales services can take many different forms—from simply providing advice to referring and using independent contractors to actually installing windows or doors or insulation. You can even use your own employees to perform installed sales services.

Each variation has its own pros and cons.

Let’s look a little closer at each of these questions.

Do I need to Provide Installed Sales?

I’ve been involved with installation services since 1983, but I’m still amazed that the first question I’m usually asked is, “Should our company offer installation services?” Many people expect this to be a “yes” or “no” answer, but this never was and probably never will be a simple “yes” or “no” question. (Although if you insist, the simple answer is “yes.”)

I think a better question really is, “What services should we offer, and when and how do we optimize the revenue and profit from them?”

The main problem I see with installed sales and how LBM dealers approach it is that many companies don’t provide installation services in any organized fashion. That doesn’t mean that you don’t provide this service; it simply means that you provide the service for an unknown price and impact on your margin or, in some cases, for free.

When your team provides ad hoc advice and evaluates customer competency, this is, in fact, a level of involvement with installed sales, even though you might not be getting paid for it.

But current conditions and the future demands of customers will force dealers to be more systematic about how they approach this important area. For instance:

1. Product margin is driven by the availability of quality services. If your company is not offering installed services, you may lose revenue or your gross margin may decline.

(As a side note, when the big boxes were developing their business models, they didn’t anticipate the amount of installed services that customers would eventually want. They learned early on, however, that their gross margin on products depends heavily on a number of factors, including the availability and quality of installation services. It’s a lesson worth learning: The higher the service levels, the higher the gross margin opportunity.)

2. Big boxes and other retailers can recommend installation service providers and even provide these services directly in many cases. The trades (plumbers, carpenters, electricians, and others) seem helpless in stopping this from occurring.

If LBM dealers don’t or can’t offer these services, it places tremendous pressure on customers to find their own solutions. Customers will source services from retailers that offer these services before they call the trades. From a retail perspective, if we don’t find a way to offer services to this part of the market, what we will be left with is the low margin, destination-driven business.

3. Aging baby-boomers are shifting from Do it Yourself (DIY) to Do it for Me (DIFM). This shift will continue for the foreseeable future and can’t be ignored. Furthermore, it’s still uncertain as to whether the Echo Boomers (the new generation) will have the same interest level in DIY. Early indications are that the Echo Boomers will choose the DIFM path. They simply have too many more important tasks to attend to.

There is also significant pressure on the cost of materials as compared to freight and installation. For example, it’s common to see an 89-cent per sq. ft. tile installed with a $5 per sq. ft. labor cost.

LBM dealers have historically focused on product as the central point of attention because the product had the most links in the value chain (the greatest percentage of revenue and profit).

Today however, freight, logistics, and installation services in many cases outweigh the product value.

4. Studies show that having quality installers available gives us a sustainable and significant advantage.

So what does all this really mean? Offering installation services isn’t an option today—it’s a must!

How Involved Should You Be?

There are six potential levels of installation service involvement (and methods) for any product:

1. No offer of any service and no evaluation of customer competency. No successful business in our industry follows this method. Even the big boxes don’t follow this short-sighted and risky option. You are already offering installation services; you just need to learn how to get paid for it.

2. Evaluating customer competency. This is where you ask some basic questions of your customers and, if you are uncomfortable with their approach, you recommend a solution.

This is the most common approach in our industry. For example, your sales associate should ask a customer who will install his or her new window? That determines whether the customer needs more information or a referral. In either case, the "value" has increased and your price should rise. If this is a bid, the associate may be able to increase the sale and consequently the margin. However, if the price was already negotiated before the issue was raised or if the product carries a fixed tag price, the price will fall short of the value and the gross margin will be lost.

(Test this by tracking the gross profit percentage of your highest service sales associates as compared to your lowest service sales associates. Assuming a similar mix of business, the high-service associate should have a significantly higher gross margin percentage. If they don’t, then your prices have probably fallen to the lowest service level.)

3. Informal referrals. This is where LBM dealers recommend a specific installation service provider, but not in any organized fashion. Customers may perceive this as a free or certainly low-cost benefit. However, since this increases the value proposition, price increases are theoretically warranted. This is also an extremely common approach.

4. Formal referrals. This is where you actually select service providers by product category. You can refer the service provider and you have a listing and their business cards readily available. You do not invoice the installation service cost and do not directly warrant the work, but there should be fairly significant upward movement with price and, therefore, profit. This is perhaps the most underutilized method in entering installed sales since it offers limited risk and a high potential return.

5. Coordinated and invoiced with independent contractors. This method allows you to capture the sales revenue on the face of the invoice as you invoice the installation cost to your customers. This is really a business-to-business relationship with respect to your labor provider. This is a popular method for those choosing to invoice installation services.

6. Coordinated and invoiced with employee installers. Historically, this has been a less common method for LBM dealers to use as the cost and management of installation employees tends to be significant.

However, more and more LBM dealers are now opting for this method because they want to maintain a high service level and they feel they cannot properly control independent contractors.

Risk Considerations

If you haven’t offered installation services in the past, this probably represents a departure from your core business. In addition, if there is significant financial or other equity in your business, there are compelling legal reasons to hire subcontractors to handle your installation services area. (This is because the risk dynamics of the installation services business as compared to the core retail and non-retail product sales business are much different.)

In general, installation service levels 1 through 4 above generally can be controlled by disclaimers and by allowing the installation service company to communicate directly with the customer.

The more aggressive and high impact levels 5 and 6 are relatively tricky and risk must be mitigated. In most states, the actual invoicing of installation services will take you to a higher level of risk.

If you pursue installed sales for your business, your plan should be reviewed by your local legal, accounting and tax professionals to identify any risks that this new endeavor may pose for your business.

There are many facets to this risk assessment. (See Sidebar “Identifying Risk: What’s at Stake in Installed Services?”)

Invoicing Installation Services

A very common question is, “Should I invoice my customers for installation services or should I use a referral method?” I believe you should only consider invoicing installation services to a customer when all three of the following conditions exist:

1. There is an opportunity for an appropriate gross margin by either increasing the product margin or the installation margin or, ideally, both.

2. The quality of installation services is anticipated to be acceptable.3. Your company can accept the risk dynamics of an installation service provider.

If 1 and 2 exist but not 3, seriously consider the referral methods. This test would be applied by product category and type of business (retail vs. non-retail). For example, you might choose to install windows for homeowners but not for builders. You might install insulation for new homebuilders but not for the remodeling market.

Pricing Issues

Many companies still pass along installation to the customer at cost or have a very small gross margin and/or they do not raise the underlying product prices when services are offered. This is an outdated practice. Frankly, if a store can’t make an acceptable profit on installation labor, why take the risks and offer this as an option in the first place?

So, what should the gross margin be?

First, understand that your underlying product prices should be raised when installation services are provided. In addition and with reference to installation profit, this will depend on the quality and the demand for the service and the demand for the underlying product. The minimum should be 10% to 15% and the maximum will probably peak at the same gross margin as the product—usually 20% to 40%. (A good place to start is at 15% to 20% for average quality and demand.)

Where to Find Good Installers

Most LBM dealers have been in their market for many years and therefore, know the best installers in the area. If for some reason you don’t have this information, contact any nearby “big box” stores and ‰ simply ask them who their best installers are. (Since those installers are more than likely independent contractors, there is no real conflict since by definition, independent contractors can work for anyone.)

This would also be a good time to ask for a copy of their installation rate table detailing the various charges. Comparison shop installation in the same way you do products.

If this avenue doesn’t provide the desired results, ask your builder and contractor customers for referrals. They may know of qualified installers in your area, or they may even want to be the installation service provider.

Be sure to screen all installers well. They are in a customer’s home and they are in a position to provide excellent customer service. They are also in a position to cause damage or worse. I recommend an application for sub-contractor form (similar to an employment application but clearly defining that they are not an employee). Check

references and run background checks.

About Installation Capacity

One of the most common responses to the capacity issue is “Bring us the sales and we will find the installers!” It’s rare (in fact almost virtually impossible) for your installation capacity to exactly meet demand. This is especially true for those new to providing installation services. You must have a plan for under capacity and over capacity. If you fail to do this, you will damage your store’s relationship with customers, installers, or both.

Paul Bumblauskas, president of PFC Services Inc., has more than 20 years of management experience with installed services with Edward Hines Lumber Co., Carpetland USA, and Flooring America. He is a CPA with a Certificate in Management Accounting (CMA) who also has significant sales and sales management experience. PFC Services Inc. provides training and advisory services to many closely held companies in the LBM, home center, and specialty retail industries. For more information, visit www.pfc123.com, or call 678.560.6725 or e-mail info@pfc123.com.

SIDEBAR: Identifying Risk: What's at stake in Installed Services?

1. Quality of service issues. By providing and invoicing for installation service revenue, your company becomes responsible for insuring that these are provided in an acceptable manner. This is a clear extension of risk for the pure building material provider. There are some other service areas, such as rental tools and delivery with independent contractors, which tend to have similar risk factors.

2. Regulatory issues. Independent contractors must have their own workers’ compensation (some states allow waivers in certain cases), unemployment insurance, and general and auto/truck liability insurance. In certain cases, state and Federal regulatory agencies will take action against those without the proper documentation. Unfortunately, the look-back period (Statute of Limitations) can be three or more years depending on the state and the severity of the issue.

3.Tax issues. The Federal government and your state need businesses to pay taxes and file tax returns. In the event that your independent contractors fail to make their tax payments, the taxing agency will examine the business-to-business relationship that you have with them. If they find that you are not maintaining the right records, there could be liability to your company for the entire Statute of Limitations period and, in some cases, longer.

4. Liability issues. Since installation service providers are oftentimes the last person to be in a customer’s home or on a job site, they come in contact with many people and many risky situations. Independent contractors should always be screened to insure that they do not have any legal violations and they provide acceptable service levels.

SIDEBAR:

Contracts and Other Forms

There are some very important contracts and forms to consider when working with installers. Examples include:

1. Contract form. Whether this is a job-by-job contract or a master agreement, you need a legal document outlining your arrangement with your installers.

2. Invoices. Installers should invoice the company for installation services on their own invoice form. The company should not solely compute the amount due internally. Remember, businesses invoice other businesses.

3. Form W-9. This form is the most basic defense for the independent contractor relationship, and is generally completed just once. You should also have this form for others not classified as employees. There are a few exceptions; consult your tax advisor for details. Form W-9 is available from the Internal Revenue Service at www.irs.gov.

4. Workers compensation and unemployment insurance waivers. These are available from your insurance broker.

5. Application for a sub-contractor. A document for the installer to complete when their company wants to work with your company.

6. Background search release. This form varies by search bureau and allows for the release of information. Be on the lookout for legal problems (particularly felonies) and financial issues.

7. Insurance certificate. Updated every year, this form indicates that your

installer has the proper level of liability and vehicle insurance.

8. Independent contractor checklist. This addresses the 20 or so points of independence that are needed for defense of an inquiry by a regulatory or tax agency.

9. Permits, licenses and certifications. Sometimes installers must have a permit, license, or certificate. Copies should be kept in the file. Generally, these are at the city or county level.