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Your Effective Labor Rate

Calculator Effective Labor Rate Our last post focused on your Posted Labor Rate and how you might be undercharging your customers and harming your business. This installment brings it back into your shop as we look at your effective labor rate.


What is an Effective Labor Rate?

This metric might be a more difficult concept to understand, but it's one of the most important to track—you learn not only how much money you're making from your customers, but where money is being left on the table. A better understanding of the effective labor rate can truly lead to increased profits for your shop.

In a nutshell, your effective labor rate tells you what you make from your customers for each hour billed. Or, thinking about it another way, how much your technicians are costing you vs. what they are bringing in. You can calculate your effective labor rate by dividing the total labor sales by the hours billed to customers:


Effective Labor Rate Calculation | Highway and Heavy Parts


As a 2014 article from Ratchet+Wrench says, you want your effective labor rate to be as close to 100% as possible. Essentially, then, for every hour you are paying your technicians' wages, you want to be able to bill that hour to a customer. In this way, you are not losing money paying your technicians, but rather allowing your customer to pay them for you.

While this sounds simple enough, the danger really lies in not tracking your effective labor rate. If you're not paying attention to it, it is easy to lose hours, whether that be from ineffective systems and procedures or faulty estimates. Every hour not charged to a customer is an hour that you pay for out of your profits, and if you aren't tracking these hours, there's no way for you to maximize your profits.


Improving Your Effective Labor Rate

To really increase overall shop profits, you not only want to track your effective labor rate, but actively work to improve it. There are several strategies you could employ to bring up your effective labor rate:

Improve Systems

Having defined systems and procedures are crucial to helping your business run at its smoothest and most efficient. Evaluate the systems you currently have in place. Are there steps that could be simplified to save time? If you don't have any systems set up in your shop, work on documenting those procedures so that every employee knows exactly what is expected of them. Not only will you notice an increase in productivity, but it should help boost your effective labor rate as well.

Improve Estimates

Accurate estimates are key to improving your effective labor rate. If you're not quoting the proper number of hours to your customers, then not only do you not make money on every hour worked over that estimate, but the technicians' pay comes right out of your profit. Work with your service advisors to ensure that the most thorough and accurate quotes are being provided.

Along with that, make sure that you're charging for diagnostic time. This can easily be one of the most time-consuming steps, but often shops only bill the customers a flat rate. If a diagnostic ends up taking several hours, you're losing money. Make sure you're charging the customer for the time it actually takes to complete the diagnostic on their vehicle.

Increase Staff Productivity

Making your staff more productive can help raise your effective labor rate. The more productive your technicians are, the more billable hours you end up having to sell. We'll talk more about shop productivity in our next post.

Invest in New Equipment

Take a look at the equipment in your shop. Do your technicians actually have everything they need to be able to complete the jobs in the hours quoted? Sometimes a new piece of equipment is what you need to improve overall efficiency. You might want to consider investing in improved technology to help your techs finish each job within the estimate—or perhaps even faster. It will cost you money up front, but the consistent return from your increased effective labor rate should make up for that initial loss.

Charge for Non-Routine Tasks

Sometimes during a job your technicians will encounter something that isn't part of the regular quoted work, but that they have to take care of in order to complete the repair. This can add time to the job, causing them to go over the quoted hours. If this is the case, don't be afraid to charge the customers for the time—it's not a failing on the part of any of your employees, but unforeseen circumstances that made the repair more complicated than it initially appeared. You shouldn't lose money on occasions like this.

Improve Efficiency

One frequently cited way to improve your effective labor rate is to improve your technicians' efficiency. If they can complete a job quoted at 4 hours in 3, then you have the opportunity to bill that extra hour. We'll dive deeper into efficiency in an upcoming post.


Things to Consider

That same Ratchet+Wrench article cautions against relying too heavily on efficiency as a tool to raise your effective labor rate. They find that even if your technicians are working faster, you still have to pay them for that time billed. You also have to be careful not to let increased efficiency lull you into a false sense of security. With a more efficient shop, you also gain the ability to sell more hours, but this is meaningless if you don't take advantage of it. Make sure that you're getting customers into your shop and filling the bays.

Fixed Magazine points to shop accountability in a June 2018 article as something else to think about as you work on your effective labor rate. It's one thing to say you want improved productivity and efficiency, but it's quite another to actually hold your staff accountable for it. It's something you need to foster in the environment of your shop. Your technicians need to feel valued and recognized for the hard work they put in. Keep your shop positive and the accountability should follow.

Like with most of the metrics discussed in this series, it takes active monitoring of the little things to make a big difference in your profits. But you’d be surprised at how quickly those smaller things add up.


Next post, we'll take a look at repair shop productivity, and how increased productivity can give your bottom line the boost you're wanting.

Our Repair Shop Value Program can provide great benefits to shops like yours! Learn more about the program here.