You’ve seen several articles on these pages over the years discussing and defining the management accounting metrics of Throughput and Operating Expense.
Simply put, Throughput Dollars ($T) is a measure of the cash each order generates for the business. It is calculated by subtracting material costs (slabs, sheets, sinks, faucets, supports), sales commissions, and any subcontractor costs from the price of the job. Operating Expense (OE) is the cash the business burns. It is calculated by totaling up all other expenses from the Profit and Loss Statement.
I thought I would share some examples of how this data can help a fabricator make better-informed business decisions.
We need to cut costs NOW
I had a client who was very concerned about how slow the business ‘felt’ lately. Showroom traffic was down. Quote requests felt light. The phone didn’t seem to be ringing as often. His intuition was telling him that the business was slow. He was worried he needed to do something significant like lay off someone so he didn’t start losing money.
Shop owners have a lot of experience in their businesses. This gives them good intuition about what is happening in the business. However, being able to quantify that intuition can make the difference between a good business decision and a bad one.
Since it was about the middle of the month, I asked how much $T they had generated so far that month. Then I asked them how much OE they had burned so far that month. It turns out they were actually making a small profit at that point in the month. It wasn’t as good as it could have been but there also wasn’t a dire need to start cutting costs.
Next, we looked at the installs they had scheduled for the rest of the month. They totaled the $T for those orders, totaled the OE they were going to burn for the rest of the month, and added the previous data to get a forecast for how the month was going to look. Again, they were going to make a small profit – not great, but also not a dire need to do something like commence layoffs.
Then we looked ahead to the coming months, discussed their existing plans to build more B2B relationships, and quantified the expected impact of those new customers. In discussing the anticipated new business from those activities along with considering the ‘normal’ seasonal variations he anticipated, it was obvious he was going to need to keep the employee he was planning to lay off. If he had followed his intuition alone, he would have laid off a valuable employee only to need that person back in a few weeks. Intuition can be a good indicator, but it doesn’t always support sound business decisions. For that, you need data.
I really got beat up on this contract and wish I hadn’t taken on this customer
I was working with a shop that needed more orders. They were limping along at about break even financially and needed more work to help fill their shop. We analyzed several orders from each of their market segments – retail, kitchen and bath, contractors, etc. As expected, the $T as a percent of sales dollars for those segments varied somewhat. However, there were a few surprises. Most of the contractor orders had a similar $T-percent-of-sales amount as most of the retail jobs. The owner expected the contractor work to have a lower percentage of $T. So, that was a nice surprise.
We discussed which market segments they thought they could get more work from and what actions they should take to get that work. There were various challenges with each market segment – advertising costs, fierce low-cost competition for one segment, and other issues. There were no obvious wins from that discussion.
The owner commented there was one market segment he hadn’t talked about. He had taken on some commercial work at a really low price because he needed something to help fill his shop. He was almost embarrassed to bring it up. Sure enough, the $T-percent-of-sales amount was the lowest of all the market segments. It was easy to see why he felt beat up by that customer. He also said the sad thing was he knew there was more of that work to be had, he just worried if he should go after it or not.
Next, we talked about how many orders of each market segment he could get through his shop and installed each week. The retail jobs were typically larger and more complex as were the contractor jobs. The K&B jobs varied quite a bit. We talked about how the various characteristics of the types of jobs impacted how many he could get fabricated and installed in a week. This calculation helped the owner understand how quickly each type of job generated $T relative to other types of jobs. We also talked about how he might start to adjust his pricing to reflect this impact and start to drive his $T percentage higher.
The “Ah Ha!” came when we looked at the commercial work. While the price was low and the $T percentage was low, the number of jobs he could process per week was the highest of all! When we multiplied the typical $T for commercial jobs by the number of those jobs he could fab and install in a week, this segment outperformed most of his other work. We had a winner! Not only was this work good for his shop, he knew how to go get more of this work so he could fill his shop. We now had a recipe for this shop owner to start making significant profit.
To validate the decisions from both examples, both owners above continued tracking actual $T generated each day and comparing it to the accumulated OE. Comparing the month-to-date data for both $T and OE on a daily basis enabled them to track the impact of their decisions and make effective adjustments.
Fabs shop owners have developed a great sixth sense for their businesses. That intuition acts like the ‘canary in the coal mine’ to tell you that something has changed and that you need to focus attention on whatever that something is. However, intuition alone is not sufficient for making sound business decisions.
This is where data is critical. Consistently tracking a few critical business metrics can make the difference between profitable business decisions and poor ones. If you would like to know more about what these critical metrics are and how to effectively use them, contact me at 864-328-6231 or Ed@FabricatorsCoach.com.
This article was published in the May 2023 Issue of the Slippery Rock Gazette, find it at: