Today I discuss a topic I get questioned about all the time from my subcontractor clients, overhead costs versus job costs.

This usually comes up in a conversation about a change order on a project where the contract limits the allowable overhead percentages to 10% or 15%.  The argument is always, “my overhead is more than 15%, I can’t make money on a change order with limits like this.”

Well, if you business has a true overhead cost greater than 15% then you either have way too much fat at the top or you are not calculating this correctly.  Overhead costs are the cost associated with keeping your business running that do not have a direct impact on generating revenue or profits.  Looking at it from an accounting standpoint, overhead should only be your indirect costs.

Did better understand this take a look at all your costs and ask the question, “If I did not have a single job running would I still need this expense?”.  Be honest, most of the expenses that you classify as overhead are not really overhead.  They would not be needed if you suddenly started selling widgets instead of building something.  Some things that I often see classified as overhead that should not be are:

• Senior management
• Project Management
• Superintendents
• Vehicle for above and workers
• Insurance costs (both indirect and direct costs make up your total insurance – separate them)
  • Insurance for work vehicles should not be overhead
• Cell phones / computers / iPads for field staff and field staff management, etc.

You can see here what I am talking about.  There are often a great deal of costs that get lumped into overhead that should actually be charged to the projects.  This is really important when you start calculating the costs associated with a change order.  If you do not put the right information into your calculations you are missing a large portion of the costs.

Take Action Items

• Take a look at your accounting and calculate your true overhead costs by looking at each expense item and asking “Would I still need this expense if I didn’t have a single project running?”.  Separate those costs then calculate your true overhead as a percentage of direct costs. (example: direct costs equal $900,000 and your newly calculate overhead is $100,000 the calculation would look like this ($100,000/$900,000)*100=11%).
• Start asking the same question when calculating the costs of change orders.  Your change order breakdown should include the normal costs of doing the work plus all costs that are directly associated with you doing that work like your PM, estimating time calculating the change order, vehicles, ice & water, tool replacement, direct insurance costs (your G/L is based on annual sales, increase in contract = increase in sales).

Sample Change Order Breakdown