Effective Labor Rate – Strategies to Maintain Profitability In The Decade Ahead

POSTED ON January 04, 2021

Over the last several years many of our client stores have been challenged with the erosion of their effective labor rates, gross profit margins, and gross profit dollars. Much of this can be attributed to a shift in the work-mix coming through our service departments – newer vehicles that require much less maintenance and repair. The opportunities still exist, however, and we just need to be more focused on the controllable factors that drive effective rate, gross margins, and gross dollars. Maintaining the balance between dealer gross operating requirements and customer retention is critical for long term success.

Over the next decade, we will experience unprecedented changes in both vehicle traffic and technology that will be disruptive to traditional service and parts department operations across all brands. The volume of new vehicle sales over the of the last 5 years has been consistently strong for most brands, and those vehicles will be in the market and requiring service for many years to come. The majority of these vehicles have internal combustion engines and hydraulic transmissions, which mostly still require some form of ongoing maintenance to operate efficiently. The disruption will come as the manufacturers aggressively enter the battery electric vehicle (BEV) market, many with the goal to convert most (if not all) of their platforms to carbon-neutral propulsion systems before 2030.

Because BEV platforms require very little maintenance and fewer repairs, we would expect to see a further reduction in the number of visits to the dealership for service. However, because of the advanced technology, special tools, and training required to service these vehicles, they are somewhat “captive” customers. We just need a strategy to capitalize on these opportunities.

There are two proven and effective strategies to capitalize on repair effective labor rate, and although neither are new concepts to the industry, we still rarely see these effectively implemented in most dealership service departments.

Grid Labor Pricing Strategy

The first is a grid labor pricing strategy, which only applies to repair labor operations. This strategy is used to establish a sale price per hour for labor, and the sale price per hour for labor is based on the number of hours sold. The philosophy behind the grid strategy is to price repair labor operation hours for small jobs at a lower sale price per hour, and the price per hour increases as the number of repair hours sold per repair operation code increases.

A common failure of this pricing method is that operators do not take into consideration that repair operation codes that are labor-intensive may be priced too high, and they miss out on both labor and parts sales on larger jobs. Usually, this happens because the grid pricing for labor starts low and continues to escalate as additional hours accrue, and they price themselves out of the market. This pricing strategy is also difficult to defend as we are merely charging more per labor hour for the repair based solely on the number of hours required, with no regard to the skill level required.

Precision Labor Pricing Strategy

The second is a precision labor pricing strategy, which only applies to diagnostic or repair labor operations. While this strategy may be used to establish a sale price per hour for labor, the sale price per hour for labor is determined based on two factors: the skill level required and the availability of this service in the market (“captive” service). These precision labor services are limited to diagnostic or repair operation codes that require the use of proprietary technology, special tools, or the need for advanced training to perform these services. For example; it has been a common practice over the last several decades to charge a precision labor rate for various powertrain component-specific diagnostics or repair specialized work, such as diesel engines in mechanical repair centers, or aluminum body panel repair in a collision center environment.

This strategy can (and should) also be applied to labor operation codes that are specific to BEV platform diagnostic and repair services. The precision labor rate is generally priced in the range of 120% to 130% of the established door rate, and there can be several different levels of precision labor rates depending on the level of technology or skill level required to perform the necessary service. This pricing strategy is much easier to defend as we are establishing a premium charge for labor on services based on technology, skill, and availability, as opposed to the number of hours required to perform the service.

If you would be interested in learning more about these or other strategies to maintain profitability In the decade ahead for your fixed operations, the NCM Institute offers a variety of in-person and virtual training options, from departmental specific classes (such as Service Management I) to our year-long General Executive Management Program (GMEP), to personalized, private training for dealerships and OEMs that can be sculpted to fit your needs.