Lets say an employer pays a carpenter a wage of $25 per hour. And then lets say he burdened rate (wage+Variable Overhead cost) brings the cost of that carpenter to $31.25. The contractor (using a Capacity Based Markup) then marks up that cost 2.12 (the median markup rate for contractors using a Capacity Based Markup) to cover his or her Fixed Overhead costs to come up with a billing rate of $66.25 per hour.
If that employee works 40 hrs in a week those 40 hours have contributed $1400 towards the company’s overhead costs that week which is the allotment you would expect that employee’s work to do during that week ($66.25 per hr Billing Rate – $31.25 per hr. Burdened Rate = $35.00 per hr. Fixed Overhead Costs, $35.00 per hr. Fixed Overhead Costs x 40 hrs = $1400). So if all the employees work 40 hrs., during a week all the Fixed Overhead Costs, have been covered for that week.
Therefore if the company’s overhead costs for the week are all paid for at the end of a 40 hour week if that employee then works putting in 8 more hours of overtime since his or her associated Overhead Cost for the week have already been covered then in theory if the contractor continues to bill for the overtime at the regular rate he or she has earned an extra surplus of $280 for that time. That’s obviously not the end of it there though in that the contractor by law has to pay the employee time and a half for that overtime so that works out to the $25 per hr. regular wage x 1.5 which comes to $37.50 x 8 hrs = $300. (While W.C. is based on payroll it is based on regular time and not the time and a half wage so it doesn’t figure in to the equation).
So if a contractor (with these wage and markup figures) has an employee work 8 hours of overtime it only costs that contractor $20 ($300 – $280 = $20) which is for all intents and purposes a wash ($20 / 8 hrs = $2.50 per hr.) .
If a contractor charges the client time and a half for that time for that premium time ($66.25 x 1.5 = $99.38) the contractor then makes a surplus of $245 for that extra eight hour day. (Or the contractor figures overtime hours into the original estimate.)
I’ll never argue that the contractor shouldn’t get that extra $245. Far from it in fact. The contractor has delivered a premium value added service in having that employee work overtime to speed up the delivery of the project so they’ve earn that premium.
All the way back in the February 2007 issue of Professional Remodeler Alan Hanbury wrote in his column Myths, Mistakes and Misinformation wrote about a bunch of interesting things but one thing in particular caught my attention at that time:
Myth No. 2: I will lose money if my crew works overtime.
What a pile of sheep dip that is! We have 800 billable hours and do $1.6 million in annual volume, which means that for every hour we work, we produce $200 of billable sales. That sale has a 40 percent margin attached to it, which means that after paying labor, burden, materials and subs we create $80 gross profit. Every hour that we incur overtime costs us only about 6 percent more than regular hours because most of our worker’s benefits (workers comp, health insurances, vacation and holidays) are not applied to overtime premiums. With a $40-an-hour cost of labor on regular hours and $42.40-an-hour on overtime, we lose $2.40-an-hour on jobs for those few overtime hours. We created $80, and we lost $2.40 of it for overtime hours. It is not much of a sacrifice to get a job done quicker, on schedule and have a better paid and more beholden workforce.
No, you are not going to lose any money by letting your workers work a few hours of unscheduled overtime here and there.
(And even if the OT actually cost the contractor money. Even if it ended up costing 20$ per day per person for OT. How often have in our careers managing projects have we heard ourselves say “What I would give for just one more day”? Is getting back a day in the schedule worth an extra $20 bucks to you?)
BUT there is a potential downside to all this.
I know of a couple, nah I should say several, contractors who see the hard financial advantage they get from having their workers work overtime and they then exploit it by expecting and or requiring their workers to work lets say 48-54 or even 60 hour weeks during the summer season.
While those contractors are thinking they’re earning more profits with those OT hours because they’ve already covered their Overhead with the regular time hours from those employees they are failing to recognize that with more and more scheduled overtime worker productivity starts to drop off further and further.
You’ll notice that I couched what I wrote saying: letting them work those few unscheduled overtime hours works out in you favor financially, the keyword being “unscheduled.” A few hours of OT here and there are probably going to work out in your favor financially but anything regularly scheduled or of any kind of sustained duration is going to hurt you more in lost productivity than the gains you get in the financial math.
Quoting from one of the studies I have on my desk:
…In the first few weeks of scheduled overtime, total productivity per worker is normally greater than in a 40-hour week, but not as much more as the number of additional work hours. After seven to nine consecutive 50- or 60-hour weeks, productivity is likely to be no more than that attainable by the same work force in a 40-hour week. Productivity will continue to diminish as the overtime schedule continues. After another eight weeks or so of scheduled overtime, the substandard productivity of later weeks can be expected to cancel out the costly gains in total weekly production realized in early weeks of the overtime schedule, so that total work accomplished during the entire period over which weekly overtime was worked will be no greater, or possibly even less, than the work accomplished if the regular schedule had been used.
In the end my own considered (and researched) opinion is don’t worry when your employees work a few hours of OT here and there but don’t make it common practice or intentionally schedule overtime work. A couple of companies I work with while allowing their workers to work OT have work rules in place that limit the number of OT hours they can work in a given monthly or quarterly time period.
But the math involved is often not at all what most contractors think it is.