Owners need to know how much they should be compensated.
|Jud Motsenbocker, CGR, tells owners to set compensation goals at the beginning of the year based on the company’s performance record.
Ask an owner of a remodeling company how much money he makes, and he’s likely to give the wrong answer. Wrong because he thinks company income equals money in his pocket. Wrong because he’s making wages but getting no additional compensation for owning the company. Wrong because, believe it or not, he’s really not sure what he makes.
Remodeling company owners have a reputation for fuzzy math and reticence when it comes to paying themselves. “You can’t imagine how many guys are working for wages, though they are taking all the risk,” says remodeler Jud Motsenbocker, CGR, of Muncie, Ind. But as the industry becomes increasingly business savvy, professional standards for proper owner compensation are taking hold. Most owner compensation is a combination of salary and a percentage of company profits. In the CGR course he teaches on the cost of doing business, Motsenbocker says a fair compensation level for owners is 10 percent of gross sales. Mike Carden, CGR, co-owner of M.U.I. Corporation, Birmingham, Ala., goes further, saying a range of 10 percent to as much as 17 percent of gross sales is a good benchmark for owner compensation.
Motsenbocker tells remodelers to set net profit and owner-compensation goals at the beginning of the year based on the company’s performance record. To set a compensation level, “think about what it would cost you to replace the person that you are in the company,” says Motsenbocker, and then add the premium you want to receive as owner. Once the goals are set, he says, remodelers should build the company budget and job pricing around them. Motsenbocker’s advice: Budget 65 percent for cost of goods sold, 25 percent for overhead (including owner salary and benefits) and 10 percent for profit.
“You’ve got to know your numbers,” says Tom Turnage, an accountant who launched the Turnage Company, a Jacksonville, Fla., remodeling company, 11 years ago. Company owners, especially owners of new companies, can easily fall into the self-delusion trap, says Turnage. If they have a home office and the company budget doesn’t account for all the hats they wear in the company, they may underestimate overhead and overestimate profits. “Don’t fool yourself,” he warns. Down the line, when you rent office space and hire staff, the profit mirage will vanish.
How Much is Enough?
Nailing the right compensation point for a company owner is a two-step process. First, the owner needs to calculate how much he should get paid for all the work he does. Second, he needs to reward himself through salary, profit taking and benefits for being the company owner, with all the risk and responsibility that involves.
Say a remodeler doing $900,000 in annual volume is handling all sales and helping with production management. According to the 10 percent industry standard, he should take home $90,000 in financial compensation. Motsenbocker says the budget might show a $75,000 salary – $36,000 as owner, $30,000 as salesman/estimator, $9,000 for the time he spends in production management. The remaining $15,000 comes as a slice of company profits; 10 percent is the standard here, too, says Motsenbocker.
Running Remodeling is close in size to that hypothetical model, and owner Michael Running’s compensation parallels Motsenbocker’s standard. As his Kensington, Md., company has grown over the past 15 years, Running has gradually increased his compensation. Last year, with a sales volume of $950,000, he paid himself about $70,000 in salary. When business is good, as it was last year, Running and everyone else in the company also benefits from profit sharing.
Owners of smaller companies probably should take more than 10 percent to justify business ownership, says Motsenbocker. As an example, Motsenbocker uses a company doing $300,000 in annual volume. The company owner sells and estimates jobs but still works in the field. At 10 percent of volume, he would make $30,000 — or about what he would pay a carpenter. For a company owner, that doesn’t wash. Add $10,000 to cover his sales work, though, and $10,000 for owning the company, and the level rises to $50,000. “Now we’re starting to make it worthwhile to be in business,” says Motsenbocker.
At the other end of the spectrum, some high-volume remodelers choose not to allocate 10 percent of gross sales to themselves. Last year the Turnage Company sold $3 million in remodeling. Owner Tom Turnage is unembarrassed to say he did not take home 10 percent. “That would be pretty aggressive,” he contends. With a 2,000-square-foot office, a shop and several people on the payroll, it would be hard to carve out a full 10 percent of gross sales for himself, says Turnage. He says he collects a weekly salary that “covers all that I do,” plus a year-end bonus and “a monthly distribution to myself as owner.” Turnage adds, “I could double my salary if I wanted to work harder and eliminate one or more people from the staff.” Instead, he prefers to pocket fewer dollars and “pay” himself partially with freedom to work a comfortable number of hours.
David Foster, CR, whose Lorton, Va., company, Foster Home Improvement, Inc., sold $2.2 million last year, says, “I used to feel the same way” as Turnage and other large-volume remodelers do about taking 10 percent of volume. Now he’s convinced that “a lot of owners don’t get compensated fairly for their time,” and he doesn’t want to be one of them.
“When you are building a company you need cash to work on,” he says. “I was making $30,000-$35,000 a year” when the company started in the mid-‘80s. “Eventually I realized,” he says, that the company had gotten “large and successful” because of his own investment of time, effort and funds. Once he saw the light, Foster’s compensation “slowly crept up to 10 percent a year.” Foster now pays himself a biweekly salary based on 8-10 percent of the previous year’s gross sales volume, plus a year-end bonus tied to company profitability.
Until company volume reaches $4 million, Foster plans to stick with the 10 percent compensation mark. After that, he says, owner compensation of 6-7 percent makes sense. “At that point, the owner is in an overseer role,” he explains, “so a smaller percentage is fair.”
Pay to Profit
Healthy compensation for company owners can be a self-fulfilling prophecy. Foster found that when “you budget a salary for yourself, you do what you can to make the company do well enough to make that salary happen. The more I paid myself, the more successful the company became.”
Fred Bueler has an ongoing compensation goal of “a base of 10 percent of gross income as owner and a net of 10 percent profit for the company, with myself as owner taking a portion of company profit as additional income.” Bueler’s total compensation includes benefits — life insurance, short- and long-term disability, vehicle, personal entertainment and a simple IRA. “The best I have done for total compensation individually was 17 percent” — or “10 and 7,” says Bueler, whose Des Peres, Mo., company, Bueler, Inc., did $1.3 million in volume last year. But the important thing for him is having the goal and the incentive to meet it.
The challenge is to generate the business to meet ambitious profit and compensation goals. You have to actively sell your product at the price level you need, says Motsenbocker, because you obviously won’t be a bargain company. To command prices that incorporate good margins, including decent owner compensation, “you have to service the customer,” says Motsenbocker. Emphasize your company’s value-added assets — customer service, remodeling expertise, product knowledge — in the sales process. “Customers are willing to pay more if they get good service.”
Motsenbocker walks that talk in his hometown. Around Muncie, he says, the word is that he does great work and is the most expensive guy in town. Doesn’t seem to hurt his business. Last year he did $1.5 million in volume, added dozens of satisfied customers to his client roster and took home $150,000 in compensation parceled out in weekly draws.
|Compensation Equation: Jud Motsenbocker uses this sample profit-and-loss statement in his CGR course to show how to account for owner compensation. The owner’s pay is split into three line items — owner’s salary, sales and estimating compensation, and production manager’s overhead wages. In addition, the owner may take a 10-percent share of the $90,000 profit.
Company owners also collect a bevy of benefits. Some are available to most employees in the company — health insurance, retirement plans, holidays, paid vacation, gas, short-term disability insurance. Others, such as life insurance, long-term disability insurance, a company vehicle, and travel and entertainment expenses, often are owner exclusives.
As co-owners of M.U.I. Corp., which did $2.38 million in volume last year, Carden and Roddy Sample, CGR, try to keep their cash compensation and benefits as equal as possible. (Carden owns 51 percent of the company; Sample owns 49 percent.) The two receive equal salaries and equal year-end bonuses drawn from net profits. Both have vehicles leased by the company. Both wrap short vacations around company-paid trips to industry events. Both entertain business contacts over golf or dinner on the company tab.
Insurance was tougher to distribute equally. Carden explains, “Roddy and I are six years different in age, so the insurance numbers can vary a good bit.” They handled disability insurance by “going after specific policy amounts,” says Sample. And, to avoid having to make disability payments with pretax dollars, “we decided to pay for disability personally one year, then reimburse ourselves the next year.” (A financial planner, accountant or attorney can provide guidance on this and other methods of setting up compensation packages with advantageous tax implications.)
Don’t Take a Pay Cut
Last year City Builders Inc., Lynwood, Wash., had gross sales of $2.3 million, but owner Gordon Gregg, CGR, still took a comparatively modest share of revenue. He paid himself “roughly 5 percent of gross sales” in salary. “I invest profits back into my business regularly,” he explains. “I would rather take less in salary and have a happier team” and “a successful environment” for business growth. (Gregg adds, “My net profit after salary is 6-8 percent, and I have a liberal profit-sharing program which starts at a company net of 8 percent. We hit it in 1999, missed in 2000 but expect to hit it again in 2001.”)
Then there’s Michael Running. Yes, he made “more than when I worked for other companies,” but not by much, in the early days of Running Remodeling. Yes, he collects a nice monthly check. Yes, he makes the top salary in his company. But “once or twice,” when business was slow, he concedes that he did not cut that check for himself.
Business is very good now, he says, but “even if the company got twice as big,” Running would be cautious about paying himself too lavishly too soon. “I would keep the same compensation level for a year or two to make sure everything was going according to plan. I’ve been in this business a long time, and I know the economy can change real quick.”
When Gregg, started City Builders, Inc. 13 years ago, his wife made more money as a part-time hairdresser than he did. “I did not have any money to pay myself for the first six months],” he says.
Economic slowdowns are bound to happen, and money may be tight in a new remodeling company, but that’s no reason for a pay cut, according to Motsenbocker. “Most guys pay themselves with what’s left over,” says Motsenbocker. “That’s a major mistake.” No matter how scarce the dollars are, Motsenbocker insists that owners must pay themselves first, from day one, in bad times as well as good, and enough to make company ownership worth the trouble.
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