Now that we have defined the big buckets on the financial statement, let’s get back to uncovering whether you have a service operating expense issue or a gross profit issue. The biggest challenge I come across in performing the reviews with dealers/distributors is in how they are accounting for Service Recovery Items. These items are what you are charging your customers for service vehicles, shop supplies, hazardous materials disposal, etc. Let’s look at the example below.
| Service Labor Revenue | $ 1,050 | 100.0% |
| Cost of Goods Sold | $ 375 | 35.7% |
| Gross Profit | $ 675 | 64.3% |
| Personnel Expense | $ 215 | 20.5% |
| Operating Expense | $ 160 | 15.2% |
| Occupancy Expense | $ 55 | 5.2% |
| Total Dept. Expense | $ 430 | 41.0% |
| Department Profit | $ 245 | 23.3% |
At first glance you would conclude that there is a major issue with Operating Expense due to the fact that is over 5% out of line with the CMC model. Other areas of the department such as Gross Profit is less than 1% off model. This is not very uncommon to see in many of our Best Practice Groups.
But when we dig further you discover that $50 of Service Labor Revenue is actually revenue associated with charges such as mileage, zone charge, EPA, shop supplies, etc. that are common in most distribution companies. The CMC model would place those items not in Revenue but as a contra expense account under Operating Expenses. Now let’s look at what that does to the financial statement.
| Service Labor Revenue | $ 1,000 | 100.0% |
| Cost of Goods Sold | $ 375 | 37.5% |
| Gross Profit | $ 625 | 62.5% |
| Personnel Expense | $ 215 | 21.5% |
| Operating Expense | $ 110 | 11.0% |
| Occupancy Expense | $ 55 | 5.5% |
| Total Dept. Expense | $ 380 | 38.0% |
| Department Profit | $ 245 | 24.5% |
The bottom line figure of $245 did not change but we are now much closer to identifying the bigger issue. Operating Expense went from being off 5.2% down to 1%. Occupancy Expense stayed relatively the same but Personnel Expense jumped up 1%. But the biggest jump occurred in Gross Profit. It went from being off model by 0.7% to being off 2.5%. We have a bigger revenue and productivity issue and less of an expense recovery issue.
This happens in other departments as well. Think about the same exercise when it comes to Parts Freight Expense & Recovery. If you put the Recovery under Parts Revenue and the cost under Parts Operating Expense, you think you are doing well in margin but it is inflated.
So if you are wrestling over what you think is a Service Operating Expense issue, make sure you are accounting for the recovery items correctly. Place them down as contra accounts and match them up with the actual expense.