Pricing Cremation Services For Profit – The Director – August 2016

Pricing Services

The 2016 NFDA International Convention & Expo is coming closer, and as you line up your schedule and choose which workshops to attend, you will realize that this article and one of the workshops have a similar title.

Fortunately for you, if you read this article and attend the workshop, you’ll get a three-dimensional presentation of these ideas.

It seems ridiculous that we are still having expert discussions on pricing for cremation. Just as we don’t have burial calls and cremation calls – we just have calls – we don’t have burial pricing and cremation pricing – we should just have pricing!

And once again, to understand how to protect this profession for the future, we must understand the past. Prior to 1984, the funeral profession priced itself like many merchandise-driven businesses. A consumer purchased the merchandise and through the delivery of the merchandise, they received all of the accouterments. Funeral homes marked up merchandise to include embalming, removal services, care, sanitation, preparation, embalming, facility costs, transfer to the church, transfer to the cemetery and basic paperwork. In 1984, a casket that cost $1,000 was sold anywhere from $4,000 to $5,000.

In 1984, cremation also made up less than 5 percent of all dispositions, and most of those were casketed and included a funeral service. The difference was simply that the hearse turned left out of the driveway to go to the cemetery or right to go to the crematory.

If you screwed up the pricing on a cremation service prior to 1984, who cared? It was less than 5 percent of your total calls. You could afford to make that error. The remaining 95 percent of your burial calls certainly covered the mistake.

But in 1984, the Federal Trade Com- mission gave us the Funeral Rule and, like it or not, this became the law. Funeral directors had to change their pricing to conform to this new structure of General Price List, Casket Price List and Out- er Burial Container Price List. You went from one price on each of your caskets and vaults to now having a reduced price on your caskets and 16 main points of pricing on your GPL! Most funeral directors had no idea how to set their prices.

I was just coming into funeral service at this time and saw firsthand the three main ways funeral home owners/managers established their GPL:

1. They copied competitors’ prices.
2. They guessed.
3. They asked their accountants or casket salesman to do it for them.

Thirty years ago, no one set their prices the right way. They didn’t analyze their overhead, they didn’t anticipate their cash flow needs, they didn’t factor taxes into their overhead and they certainly didn’t take profit into consideration. Lastly, no one factored in the 15 percent of their annual services that were going to come from preneed accounts set before 1984. All the new pricing in the world didn’t apply to the pre-1984 accounts.

Most of you know that the difference between the sales price and the cost of goods is gross profit. Prior to the FTC ruling, the profit margin in the average funeral home was about 14 percent on every dollar of revenue. Within 15 years, that margin fell to half that amount! Today, it is about 6 percent of revenue.

The reason for the declining prof- it is very clear and can be expressed as a mathematical formula: W x I^30 = MW. As defined in English, the variable “W” stands for “wrong amount.” Multiply “W” by an industry inflation rate (“I”) that no one paid attention to for 30 years and you get “more wrong” (“MW”) now. Add the increasing cremation rate to this and you simply compound the “MW” result by fear.

The name of this profession is “funeral service.” Someone someplace told someone else that when the FTC required a direct cremation package price that this price had to be less than the sum of its parts. I don’t know who that person is, but I would love to visit their grave to yell at them. You are a service provider. A direct cremation package price should factor in the following:

• It costs the same amount to remove a body regardless of whether it will be buried or cremated.
• It costs the same to prepare a body regardless of whether it will be buried or cremated.
• An embalmed body that is cremated takes the same time and effort as an embalmed body that is buried.
• It takes the same amount of time to do all of the paperwork on a body regardless of whether it will be buried or cremated.
• The body takes the same amount of care within your facility regardless of whether it will be buried or cremated.
• The same livery cost is incurred to drive a body regardless of whether it will be taken to the cemetery or cremated in the retort.
• Staffing costs are similar for the services regardless of whether the body is present or will be cremated after the service or if the cremated remains are the focal point of the service.
• The basic non-declinable should be the same for a body that is to be buried as it would be for a body to be cremated.

Let’s assume, for example only, that your GPL stated:

1. Basic services of funeral director and staff, plus overhead: $2,000
2. Transfer of the remains to funeral home: $500
3. Other preparation of the body: $250
4. Hearse or transfer to cemetery or crematory: $350
5. Cremation: $400.

The simple math demonstrates (again, for example purposes only) a total of $3,500. Then how is it that the GPL could list a direct cremation at $1,995?

Why do we do this to ourselves? What this means to me is that you are either overcharging families that want a burial or sacrificing profit to the families wanting too little from you. I am not against low-price providers, but I won’t eat sushi at the lowest cost sushi stand and I don’t want to buy a low-priced parachute.

To me, as demonstrated by the many articles I’ve written over the years, we need to start our pricing discussion with overhead, not pricing! Pricing must produce the revenue that covers overhead. Some of that overhead is fixed and some is variable. Regardless, the sum total of revenue must equal this anticipated cost of operations.

If you perceive that your community is price sensitive, then you should cut your overhead. I have many clients that are value-oriented funeral providers. To be a low-cost provider, though, there are some basic facts of business you must adhere to:

• You cannot afford to have bad debt. Everyone must pay when served.
• You must reduce as much of your overhead to variable, rather than fixed, overhead.
• You must control staffing costs.
• Your building cost must be under control.

Too many times each year, clients will tell me that they have to “compete” with a low-price operator, which is akin to Ruth’s Chris Steakhouse competing with Golden Corral. It’s not only that the product and experience are totally different; the business model is also different. So how can someone with a large funeral home building compete with someone with a nominal building?

The biggest disconnect is that a classic funeral home business model cannot serve everyone. We want to serve everyone, but we can’t. Some families are value-oriented and some are experience oriented. Understand to whom you are marketing. If you do not differentiate your offering from the low-price operator, then of course you’ll lose market share. The key points most classic funeral homes offer that the value operator doesn’t are:

• Comfortable facility
• High-quality, trained staff
• Secure environment for the deceased
• Financially well-managed business not on the brink of failure
• Honor and reputation.

With that said, the key word in marketing today is “disrupt.” New players are disrupting consumer loyalty by capitalizing on consumers’ lack of education. They are doing it only by price. One value operator pointed out to me that they are akin to Southwest Airlines combating the mainstream airlines in the 1980s.

I don’t disagree with the analysis. The value operator is disrupting the price/service continuum. The mainstream guys need to fight back by explaining how they can provide an equal result with fewer service fees. The mainstream guys, however, don’t want to fight that fight! They don’t want to explain the differences. It’s icky and gory and demeans the profession to talk about the tactics of the value operator. So the public never learns the scope of the difference, just the price.

When setting prices, you must do the following:

• Establish your operational and financial overhead.
• Compute your case count
• Determine your return from merchandise.
• Estimate your return from service fees.

Operational overhead is the cost of your direct operation and includes staffing, livery, marketing, your facility and general and administrative costs. Financial overhead includes principal and interest on debt, capital expenditures, income taxes and profit. Together, they equal your total overhead.

Computing your case count is a matter of being conservative. If you serve 100 families a year, you can use 100 as your case count number. However, I like to use something less. For example, I might use 90 percent of your three-year case count average. Remember, you can’t control mortality! If I am right and you have an off year, then you won’t be crying. On the other hand, if I’m too conservative and you actually serve 100 families, then you will have more profit, which then can be saved for a rainy day or perhaps given to charity!

Most funeral homes sell some merchandise at a retail level. If I am a 100-call funeral home and expect to have 80 percent of the families the funeral home serves purchase a casket, that does not translate into 80 caskets sold. You need to discount this by the factor I elected in the previous paragraph. So, in this case, assuming a 90 percent factor, I will sell 72 caskets. If I know the average whole-sale casket I sell and the markup, then I can compute the gross profit from merchandise.

Assume you are a 100-call business, but to be conservative, you’re using 90 per- cent of your case count. If 80 percent of families choose a casket, you would expect to sell 72 caskets in a year. If the average casket wholesale price is $1,000 (just an example) and you mark it up 2.5 times (again, an example only), you get $1,500 profit/72 casket sales. So I would have about $108,000 gross profit to offset my total overhead. Total overhead less profit from merchandise equals revenue needed from service fees.

Generating the correct service fee is really a matter of trial and error. Once you establish the anticipated case count, you must reduce that to the sum of the 16 points on the GPL. Create a chart. Show each of the 16 points of service. Estimate how many times in the next year you are going to be called upon to provide each point of service. Now, put a service fee next to that item. If you were to multiply the number of service efforts by the value you will be paid for each service, you then have the revenue from that one service. If I add up all of the service efforts’ total revenue, I have total revenue from service fees.

The following chart is just an example. I am showing just four items here for the sake of demonstration. If you do this in earnest, you would have one line for each item on your GPL.

I know this is a lot of mathematics, but it can be done on an Excel spreadsheet quite easily. More importantly, think of this logically. Whatever your non-casketed rate is, that amount should generate an equal amount of revenue to your total overhead. For example, if your total overhead is $1 million and your non-casketed rate is 40 percent, then you should be generating about $400,000 from your non-casketed services!

There is no other way to look at this. You cannot tax your casketed consumers to provide for the non-casketed consumers. If you don’t like the required pricing you need to get, you have only one option and that is to adjust overhead.

The process I’ve taken you through will result in your itemized pricing. The total must be equal to or greater than total overhead. If you’re using packages, including the mandated FTC packages, these must equal the sum of the service fee items. You cannot discount this. I know you may perceive that competition is a factor, but imagine if you are in a 100 percent non-casketed call world. Who is going to make up the difference then? Do you believe in a casket fairy?

If the sum of this analysis is short of your need, you have four options:

• Adjust the line item prices until they reach the proper total.
• Adjust your overhead to bring it down to the point where the chart results are equal to or greater than the revised overhead.
• Adjust the utilization assumption.
• Pray.

What you will not be able to do is match the business model of the low-cost provider, whose overhead and investment is so low compared to yours. Please do not try to join them without making adjustments.

I had a client years ago that was doing 700 cremations in its market for an average revenue per cremation call of about $900. The firm wanted to increase its market share so it dropped its price to $600 (against my counsel). They were proud to show me the next year that they served 900 families.

I tried to explain that the previous year, they had generated $630,000 in revenue and this year they generated just $540,000! Furthermore, it cost the firm more for livery, staffing and fuel. I determined that the overhead to serve these extra 200 families went up about $85,000. Thus, to serve 200 more families, the firm essentially lowered its profit by about $175,000! Ironically, during that same time, this client did nothing to adjust its prices for casketed consumers.

If you find that price is the only thing your market wants, well, you have made a bad choice of investment in the business. Consumers surveyed by NFDA as part of the Consumer Awareness and Preferences Study have shown each year show that people do shop multiple funeral homes. It is not, however, as prevalent as you think. Year after year, this study shows that about 20 percent of funeral consumers shop more than one funeral home. However, in the inverse, this means that 80 percent do not shop. Of the 20 percent that do, about half only checked with one other funeral home. This is almost identical to the results of the family follow-up surveys we do for firms nationwide.

We need a solid discussion on educating people as to what a cremation service is. I estimate that currently, almost 45 percent of all U.S. deaths result in a cremation disposition. Of these, about 210,000 families are making cremation arrangements for the very first time. They don’t understand that a cremation service and a burial service are essentially the same.

I am not trying to convert you. I want to give you confidence. Set your prices accurately. Spend time talking to families about the choices and options they have. Be proud of your differences. Be strategic in highlighting those differences with others.

Daniel Isard, MSFS, is president of The Foresight Companies LLC, a Phoenix-based business and management consulting firm specializing in mergers and acquisitions, valuations, accounting, financing and customer surveys. He can be reached at 800-426-0165 or danisard@f4sight.com. For copies of this article and other educational information, visit www.f4sight.com. Connect with Isard and The Foresight Companies by following them on Twitter at @f4sight or on Facebook.

The financial and tax advice contained in this article is for informational purposes only and may or may not apply to your individual position. Readers are strongly encouraged to seek the counsel of qualified advisors before undertaking any action based on this information.

Pricing Cremation Service For Profit – The Director August 2016