This article has been reviewed by Billy Stevens for accuracy.
The business appears to be growing — you’re securing more customers and hiring more techs. Yet, why isn’t profit increasing? If this describes your situation, you’re like many others in the HVAC industry. Much of this has to do with pricing.
Field service businesses typically price one of two ways. They either offer flat rate pricing or base prices on time and materials. Customers prefer flat rates because they provide upfront costs. However, hourly rates can feel more lucrative for an HVAC company.
There’s a third option that benefits the business and the customer called margin pricing. Use the following HVAC profit margin calculator to figure out your profit margin.
Understanding Profit Margins
To understand HVAC profit margins, let’s first differentiate between gross profit and net profit:
Gross Profit
Gross profit represents total revenue minus all material costs and labor costs for HVAC jobs. This is only material and labor used in producing and delivering products and services. It doesn’t include administrative, sales, or other general costs. Gross profit indicates your ability to cover operating costs.
A high gross margin means your company retains more capital. This money goes toward other costs, boosting profits. However, HVAC contractors should know a higher gross margin also requires a healthier cash flow.
Gross profit margin divides gross profit by net sales. Net sales are gross sales minus allowances, discounts, and returns. For HVAC businesses, the average gross profit margin is between 30 and 40%. Therefore, you want your gross profit margin to be in the 50 to 60% range — but no lower than 45% — to be above average.
The formula is as follows:
Gross Profit Margin = Gross Profit ÷ Revenues × 100
Net Profit
Net profit is the bottom line for an HVAC company. It comes from subtracting total costs from gross revenues, which includes:
- The costs of products and services sold
- SG&A (selling, general, and administrative) expenses
- Interest expense
- Taxes
- Additional income
Net profit margin is net profit divided by gross revenues. In the HVAC industry, the average net profit margin is approximately 8%. When gross profit margins are in the 50 to 60% percent range, and your company implements strict cost control, you can achieve a net profit margin of two to three times this average.
The formula is as follows:
Net Profit Margin = Net Income ÷ Gross Revenues × 100
Steps for Calculating HVAC Business Profit Margin
HVAC business owners can follow these easy steps to determine profit margins:
- Calculate total costs: The first step is to add up all costs, which include:
- Overhead costs
- Cost of goods, such as office supplies
- HVAC equipment and inventory costs
- Vehicle costs and rent expenses
- Salaries and benefits
- Insurance costs
- Calculate total revenue: Next, figure out the business’s total revenue. It’s best if you can determine total revenue per year, but per month works as well. If calculating per month, shoot for average total revenue instead of looking at the highest or lowest month.
- Calculate net income: Then you want to figure out your net income (net profit). This amount comes from subtracting business costs and taxes from total revenue.
- Calculate net profit margin: Using the formula above, determine net profit margin.
HVAC Profit Margin Calculator: Example
Now that you understand what goes into calculating HVAC profit margins, let’s look at an example. First, let’s calculate net income. Here are the values:
- Total revenue is $600,000
- Total costs are $300,000
- Taxes are $20,000
For net income, we’re subtracting total costs and taxes from total revenue. So, the net income is $220,000. Next, we calculate the net profit margin by dividing net income by total revenue and multiplying by 100. In this case, it’s 220,000 divided by $600,000, which is about 0.36. Multiply by 100, and you have a 36% net profit margin.
Factors Affecting HVAC Profit Margins
As mentioned, the average net profit margin for HVAC businesses is 8%. However, net profit margins can range between 8% and 40%, comprising between $50,000 and millions of dollars. Several factors cause these fluctuations, including:
- Specialization: Whether you operate a general HVAC business offering many services or specialize (residential/commercial, installation/repair) dictates profit margins.
- Target market: Some HVAC companies may struggle to attain high-value customers. Providing a better customer experience can impact profit.
- Location: In rural areas, operating costs are lower. So, HVAC companies in these regions can earn significantly more.
Ways to Improve HVAC Profit Margins
You may discover your profit margins are below the industry average after making your calculations. Why? There are many reasons, including inefficient operations and use of resources, hiring more office staff than techs, and underestimating overhead costs while overestimating profit margins.
Regardless of why profit margins are low, HVAC businesses find strategies to improve profitability. These include:
Reduce Business Expenses
This may involve recalculating labor rates, securing better deals from suppliers, and streamlining tedious tasks to enhance efficiency.
Create Profit Goals
Considering your service area and the type of HVAC services you offer, determine a target profit margin to support growth. The standard is to improve the gross margin by 5 to 10%.
Calculate HVAC Parts Markup Percentage
Markup percentage shows the difference between the selling price and the costs involved in selling products and services. It comes from dividing gross profit by total cost and multiplying it by 100.
Increase Prices
It seems the most obvious, but you want to raise prices carefully to avoid losing customers. Look at competitors' prices and consider a unique value that might justify a higher price. Consider promoting maintenance contracts and developing quotes that give customers multiple options.
Enhance Efficiency
Inefficiency impacts every aspect of the business, from productivity to profitability to the employee experience. Tools like field service management (FSM) software reduce inefficiencies with everyday tasks like scheduling, dispatching, and invoicing.
Margin Management With HVAC Software From Sera
Through margin pricing, HVAC contractors can ensure profits increase as the business grows. The complexity of profitability is just one reason why running an HVAC company is challenging. In addition to the HVAC profit margin calculator, business owners find another tool that supports profitability — HVAC service software from Sera.
Our software is built on four pillars that contribute to better efficiency for small and medium-sized residential contractors like you. One of these pillars is Margin Management. Our software features a built-in pricing model that sets prices according to desired net profit margins. This helps generate profitability from the get-go.
View our demo now to learn more about our FSM software for residential HVAC contractors.