Happy Tuesday Folks!

Welcome back to another edition of The Contractor Finance Playbook.

This week I’m covering a subject that’s very relevant (and painful) at the moment. I’m talking about a sudden spike in costs, specifically Diesel prices. And if you’re not paying attention these sudden spikes in prices can erode your gross margin away quickly.

I’ve been talking to a lot of contractors lately and a common painpoint I’m seeing that is impacting all of them is Diesel prices. Some have been able to combat them better than others, but there’s no doubt it’s having a direct impact on the trades, and constuction in general. And if you’re not paying attention these sudden spikes in prices can erode away your gross margin and profit quickly.

Today I’m breaking down three best practices that you can implement to help reduce your exposure to these sudden price spikes.

Let’s dive on in!

As I mentioned above, the price of Diesel fuel has spiked in the last couple of months. It was around $3.50 at the start of the year and has gotten as high as $6.53 national average per AAA.

Here’s where prices currently are in my area. These gas stations are just seven miles apart in the same county, so prices can vary depending on location.

These are directly from contractors I have talked to about these sharp price increases are impacting their business.

Absorbing the cost instead of passing it on: Contractors simply don’t have the language in their current contracts to issue surcharge or they’re worried passing on the cost it will make them less competitive. Given how sharp the spike has been, most trade associations are now advising to build-in fuel volatility into every bid instead of treating it like a temporary headwind.

The price of everything is going up: Diesel is the backbone of freight and logistics, so when the price of diesel rises so does the price of everything else. The rise of diesel prices is pushing up the price of materials and equipment contractors need to complete their jobs.

Changes the equipement A contractor plans to obtain: I spoke to one contractor that said the spike in price has made him reconsider what equipement he plans to buy in the future. That’s both new and existing equipment.

Direct hit to fleet costs: Home service and trade businesses, think HVAC, plumbing, electrical and landscaping typically runs fleets service vans and trucks. The high prices are squeezing margin on top of a service line that usually has thin margins anyways.

Project delays and cancellations: For contractors that are doing heavier, construction adjacent work, the rising costs is causing projrct delays and cancellations. Construction equipment runs solely on diesel so rising fuel costs are contributing to more cancellations and delays as contractos are trying to protect their margins. Rising fuel costs are also why project owners are cancelling, delaying or scaling back projects.

So, now that we have talked about this is impacting contracors, what does all this mean for you - a contractor and business owner?

Larger and commerical contractors tend to have more flexibility around this but here are four ways you can reduce or even eliminate your risk from sudden fuel price spikes like what we have witnessed so far this year.

I preach on this all the time but this is a prime example of why it’s import to review your pricing regularly.

Many contractors like to set it once a year and leave it. In a year where the price of diesel has moved $2+ a gallon, that cadence is too slow. By the time you get back around to the annual review, you’ve obsorbed months worth of margin loss.

I recommend keeping an eye fuel costs each month but doing a deeper review of your fuel costs each quarter. If prices rise past a certain threshold, that should be a trigger to review pricing early and not wait for the annual review.

Review your pricing each month and adjust as needed.

This is specifically built for spikes and isn’t a permanent price hike. The purpose of this is to help obsorb some of the additional cost from the price spike, until either the market settles back down or you’ve had the chance to build the appropriate increase into your base pricing.

Set a free service radius from your shop, then a transparent surcharge for calls or jobs beyond it.

Here’s a simple version to start with: add 0.20/milke beyond your free radius once diesel crosses $5.50/gallon and drop it once it falls back under $4.50/gallon. This is easy to explain on the phone and should be easy for customers to understand.

The reason you don’t turn the surcharge on/off with one rate is because the price of diesel doens’t move in a straight line. It fluctuates and can strattle the threshold within the week, which means you would be adding and removing the surcharge multiple times a week - and that can get confusing for customers and is a pain to track. By setting a lower rate, say $4.50 for example, the surcharge is only comes off once and the spike is actually passed.

How to calculate your own rate:

(current fuel price - base fuel price (the rate that built into the base price) ) ÷ average miles per gallon

For example, diesel is $6.35/gallon and my baseline is $3.50/gallon, with a fleet that averages 12 mpg.

So my calculation would be (6.35 - 3.50) ÷ 12 = 0.24 cents per mile.

One import clarification here: You can’t just start charging it. For existing agreements, you need to already have a clause included in the contract or you need to formally amend the agreement.

For new agreements, build the clause into new agreements and you are good to go.

I built a free calculator to do this so you don’t have to do this math manually.

Plug in your baseline price, current price and your average mile per gallon and it calculates your exact per-mile rate. It also calculates the total surcharge for a specific job once you add in the miles.

Download the Fuel Surcharge Calculator: Here

If you have the tanks or the supplier relationship, buying fuel in bulk and locking in that price takes the volitility out of one of your larges variable cost. That could be having a dedicated tank(s) filled during your slower season or when prices are lower.

It also could be having a fixed agreement with a local supplier that locks in a set rate for a defined period of time or volume of fuel.

This approach does require capital upfront but if you have the capacity and can swing it, this is a good way to lock in your fuel cost at a set rate.

This isn’t as big of a factor with residential call or jobs since you oftenare paid same day. However, maintenace contracts, HOA work or commercial or property management jobs often run on Net 30, Net 45 or Net 60 day terms.

If a spike happens mid-contract your fueling the truck and equipment with today’s prices but getting paid based on the price from when the contract was first signed and then getting paid for it 60 days after.

Having a line of credit helps bridge the gap short-term so you aren’t squeezing operating cash. While this doesn’t fix the problem with fuel cost itself, it keeps the timing mismatch from becoming a cash crunch.

Is fuel your largest variable costs currently? If not, what is?

Til next time, cheers!

Preston