The Pros & Cons of Various Markup Methodologies

AKA: Gross Profit Margin (GPM), Margin Based Markup, Across-the-Board Markup, SORS (Single Overhead Recovery System)

This is the method that was taught by the late remodeling industry icon Walter Stoeppelwerth in his books Professional Cost Estimating 1981 & Professional Remodeling Management 1985 and in seminars, he conducted as well as the retired icon Linda Case. It is currently being advocated by  Melanie Hodgdon & Leslie Shiner in their book A Simple Guide to Turning a Profit as a Contractor and Michael Stone in his popular book Markup & Profit; A Contractor Guide. This is arguably the most widely recognized pricing system in the remodeling industry — simple, easy and quick to figure out (you just convert your desired margin into a markup number) but it is not as accurate, scalable, or robust as people might think.

The method can typically be represented by the formula:

Job Costs x Markup = Selling Price

or that same formula can be broken down into a little bit more detail as:

(Labor Cost + Material Cost + SubContracting Costs) x Markup = Selling Price

With this method, every dollar of Joe’s job cost ($210,000) earns the same amount of gross profit. 

Joe needs $90,000 in gross profit.

He uses a 1.43 or 43% markup on all job costs to help him achieve this goal. $210,000 x 1.43 = $300,300
$300,300 – 210,000 = $ 90,300 in gross profit dollars

To determine the markup you need, simply divide the gross profit dollars by the job cost dollars. $90,000 ÷ 210,000 = 42.8%.
This equates to a 43% or 1.43 across the board markup.

(aka Activity Based Markup, PROOF, Schedule Based Markup, PILAO, OPH (Overhead Per Hour), or PIF)

Capacity Based Markup appears under several different names usually depending upon the industry or who was teaching the method. For instance, if you took some training in markup like I once did from PROOF Management Consultants you probably called the method PROOF, PIF which stands for Profit Index Factor comes from the automotive repair and maintenance industry and PILAO is used by early adopters of our Capacity Based Markup Workbook since that was the name of the Excel file while it was in development. I prefer to use the name Capacity Based Markup which was coined by builder/author David Gerstel in his seminal book Running a Successful Construction Company and it describes what it is based on (you are selling pieces of your company’s capacity to build projects) although I am also perfectly comfortable with Activity Based Markup too.

2a. Labor-Based Markup

Joe has two carpenter employees. Each of the three works and gets paid for 2000 hours per year. But not every hour of those 2000 is “productive” and actually billable to a client or project. i.e.adminstrative time, education & training, tool maintenance, etc. so instead of employees working 2000 productive hours, the figure for productive billable time is really about 1750 labor hours per year. So 1750 labor hours X 3 (Joe and his 3 employees) = 5250 hours. That means Joe’s company has 5250 hours of productive billable time AKA “capacity” to sell each year in which he needs to recover his company’s Overhead & Profit.

Within this time, Joe has to earn $90,000 in Gross Profit. Each hour of labor must then be marked up to carry $17.14 of overhead. (5250 hours x $17.14 = $89,985 or $90,000).

2b. Schedule-Based Markup

Joe’s company has 250 working days in the year in which to generate $90,000 of gross profit. Therefore, each working day must produce $360 in gross profit (250 x $360 = $90,000)
Joe runs one job at a time. The Harris job will take 4 weeks or 20 working days. (20 x $360 = $7200). This amount, $7,200 will be added to the job costs for a minimum mark up. For example, if the Harris job will cost $10,000, the sales price would be $17,200.00

With Capacity Based or Activity-Based Markup, there is no attempt to recover Overhead Costs via markups on Materials and Subcontracting costs although they are often marked a small amount up to contribute to Net Profit.