CHAPTER 6. MARKUPS FOR EQUIPMENT PRICE DETERMINATION

TABLE OF CONTENTS

**6.1 INTRODUCTION** 

**.............................................................................................................. 6­1** 

**6.1.1 Baseline**  **Markups................................................................................................. 6­2** 

**6.1.2 Incremental**  **Markups**

**........................................................................................... 6­3** 

**6.1.3 Overall**  **Markups**

**.................................................................................................. 6­4** 

**6.2 BASIC**  **ASSUMPTIONS USED**  **TO ESTIMATE**  **WHOLESALER AND** 

**MECHANICAL CONTRACTOR**  **MARKUPS**

**................................................................. 6­5** 

**6.3 ESTIMATION**  **OF WHOLESALER**  **MARKUPS**

**............................................................. 6­6** 

**6.4 ESTIMATION OF MECHANICAL CONTRACTOR MARKUPS.................................. 6­7** 

**6.4.1 Estimation**  **of Mechanical**  **Contractor Markup**  **Probability Distribution** 

**............. 6­8** 

**6.5 SALES**  **TAX**

**....................................................................................................................... 6­9** 

**6.6 NATIONAL**  **ACCOUNTS**

**............................................................................................... 6­11** 

**6.7 OVERALL**  **MARKUPS.................................................................................................... 6­12** 

**6.8 RESULTS** 

**......................................................................................................................... 6­13** 

**REFERENCES**

**.......................................................................................................................... 6­14** 

LIST OF TABLES

**Table 6.1.1**  **Distribution Channel**  **Shares**

**................................................................................ 6­2** 

**Table 6.3.1**  **Wholesaler Expenses**  **and Markups** 

**..................................................................... 6­6** 

**Table 6.4.1**  **Mechanical Contractor**  **Expenses and**  **Markups................................................... 6­8** 

**Table 6.5.1**  **State Sales**  **Tax Rates.........................................................................................**  **6­10**

**Table 6.5.2**  **National Average**  **Weighted Sales**  **Tax Rates,**  **based on**  **Estimated**

**Commercial Refrigeration**  **Equipment Shipments**  **by State** 

**............................... 6­10** 

**Table 6.7.1**  **Baseline Markups**  **by Distribution**  **Channel and**  **Overall Weighted**  **Average**

**Markup, Including**  **the Weighted**  **Average Sales**  **Tax Multiplier**  **for**

**Supermarkets...................................................................................................... 6­12** 

**Table 6.7.2**  **Incremental Markups**  **by Distribution**  **Channel and**  **Overall Weighted** 

**Average Markup,**  **Including the**  **Weighted Average**  **Sales Tax**  **Multiplier**

**for Supermarkets................................................................................................ 6­12** 

LIST OF FIGURES

**Figure 6.1.1**  **Distribution Channels**  **and Shares**  **for Commercial**  **Refrigeration**

**Equipment............................................................................................................ 6­1** 

**Figure 6.4.1**  **Cumulative National**  **Sales­Weighted Distribution**  **of Mechanical** 

**Contractor Markups**  **for Commercial**  **Refrigeration Equipment**  **Sales to** 

**Supermarkets........................................................................................................ 6­9** 

**Figure 6.5.1**  **Cumulative National**  **Sales­Weighted Distribution**  **of Sales**  **Tax Rates**  **for**

**Commercial Refrigeration**  **Equipment Sales**  **to Supermarkets** 

**.......................... 6­11** 

**6­i 6­ii** CHAPTER 6. MARKUPS FOR EQUIPMENT PRICE DETERMINATION

6.1 INTRODUCTION

**To carry**  **out the**  **life­cycle cost**  **(LCC) calculations**  **described in**  **Chapter 8,**  **the**

**U.S. Department**  **of Energy**  **(DOE) needed**  **to determine**  **the cost**  **to the**  **customer of**  **baseline**

**commercial refrigeration**  **equipment (CRE).**  **This cost**  **was determined**  **for both**  **baseline**

**equipment and**  **more­efficient equipment**  **the customer**  **would purchase**  **following the** 

**promulgation of**  **new standards.**  **However, the**  **customer price**  **of such**  **equipment is**  **not known** 

**since it**  **depends on**  **how the**  **equipment is**  **purchased. What**  **is known**  **is the**  **manufacturer’s**

**selling price**  **(MSP) for**  **both baseline**  **equipment and**  **the more­efficient**  **equipment as**  **determined**

**in the**  **Engineering Analysis**  **(Chapter 5).**  **By applying**  **a multiplier**  **called a**  **“markup” to**  **the**

**MSP, DOE**  **was able**  **to estimate**  **the customer**  **price of**  **equipment purchased**  **through various** 

**distribution channels.**  **This chapter**  **describes how**  **DOE derived**  **the markups.** 

**The cost**  **to the**  **customer depends**  **on how**  **the customer**  **purchases the**  **equipment. DOE** 

**defined three**  **distribution channels,**  **as shown**  **in Figure**  **6.1.1, to**  **describe how**  **the equipment** 

**passes from**  **the manufacturer**  **to the**  **customer. In**  **the first**  **distribution channel,**  **the manufacturer** 

**sells the**  **equipment directly**  **to the**  **customer through**  **a national**  **account. In**  **the second**  **and third** 

**distribution channel,**  **the manufacturer**  **sells the**  **equipment to**  **a wholesaler,**  **who in**  **turn may**  **sell**

**it directly**  **to the**  **customer or**  **through a**  **mechanical contractor.**  **The wholesaler**  **in this**  **case can**  **be**

**a refrigeration**  **wholesaler focusing**  **on refrigeration**  **equipment, or**  **a grocery**  **warehouser (supply** 

**chain distributor)**  **who sells**  **food and**  **store equipment**  **to the**  **retailer. Table**  **6.1.1 gives**  **the**

**distribution channel**  **shares (in**  **percentage of**  **total sales)**  **through each**  **of the**  **three distribution** 

**channels for**  **remote­condensing and**  **self­contained equipment.**  **The distribution**  **channel shares** 

**are based**  **on estimates**  **provided by**  **Carrier Corporation**  **to DOE**  **during the**  **public review**  **of the** 

**Advanced Notice**  **of Public**  **Rulemaking (ANOPR)**  **for commercial**  **refrigeration equipment.** 

**Manufacture r** 

**National Account** 

**Customer Customer**  **Wholesaler or**  **Wholesaler Distribution** 

**Mechanical Contractor** 

**(New Construction**  **or Replacement)** 

**Customer**

Figure 6.1.1 Distribution Channels and Shares for Commercial Refrigeration Equipment

**6­1**Table 6.1.1 Distribution Channel Shares

**Remote Condensing**  **Equipment**

**New and**  **Replacement**

**Construction National**  **Account Distributor**  **Contractor**

**70% 15%**  **15%**

**Self­Contained Equipment** 

**New and**  **Replacement**

**Construction National**  **Account Distributor**  **Contractor**

**30% 35%**  **35%**

**The following**  **equation describes**  **how DOE**  **determined the**  **equipment price**  **if a** 

**customer purchases**  **directly from**  **the manufacturer**  **through a**  **national account:** 

EQP CUST **=** MFG BASE **x** MU NATL ACCT **x (1+**  **ST)** Eq. 6.1

**where:**

EQP CUST **= equipment**  **price to**  **the customer**  **($),**

MFG BASE **= manufacturer**  **selling price**  **of baseline**  **equipment ($),** 

MU NATL ACCT **= national**  **account markup,** 

ST

**= sales**  **tax rate.** 

**The following**  **equation describes**  **how DOE**  **determined the**  **equipment price**  **if a** 

**wholesaler sells**  **the equipment**  **to the**  **customer through**  **the wholesaler**  **distribution channel:** 

EQP CUST **=** MFG BASE **x** MU WHOLE **x (1+**  ST **)** Eq. 6.2

**where:**

MU WHOLE **= wholesaler**  **markup**

**The following**  **equation describes**  **how DOE**  **determined the**  **equipment price**  **if a** 

**mechanical contractor**  **sells the**  **equipment to**  **the customer**  **through the**  **wholesaler distribution** 

**channel:**

EQP CUST **=** MFG BASE **x** MU WHOLE **x** MU MECH **CONT x**  **(1+** ST **)** Eq. 6.3

**where:**

MU MECH CONT **= residential**  **and light**  **commercial mechanical**  **contractor markup** 

**The markup**  **multiplier to**  **the equipment**  **price is**  **thus lessened**  **for shorter**  **distribution channels.** 

**For each**  **of the**  **markups presented**  **above, DOE**  **further differentiated**  **between a**  **baseline**

**markup and**  **an incremental**  **markup, as**  **described below.**  **The overall**  **markup is**  **then the**  **product**

**of all**  **the markups**  **plus sales**  **tax within**  **a distribution**  **channel.**

6.1.1 Baseline Markups

**DOE defined**  **baseline markups**  **as cost**  **multipliers that**  **relate the**  **purchase cost**  **to selling** 

**price for**  **each step**  **of the**  **distribution channel.** 

**6­2 If**  **sold to**  **a customer**  **by the**  **manufacturer through**  **a national**  **account, the**  **following**

**equation defines**  **the equipment**  **price:**

EQP NATL ACCNT BASE **=** MFG BASE **x** MU NATL ACCT BASE **x (1+ST)**  Eq. 6.4

**where:**

EQP NATL ACCNT BASE **= national**  **account price**  **to the**  **customer of**  **baseline equipment**  **($),**

MU NATL ACCT BASE **= national**  **account markup**  **on baseline**  **equipment.**

**If sold**  **to a**  **customer by**  **a wholesaler­distributor:** 

EQP WHOLE BASE **=** MFG BASE **x** MU WHOLE BASE **x (1+ST)**  Eq. 6.5

**If sold**  **to a**  **customer by**  **a mechanical**  **contractor:**

EQP MECH CONT BASE **=** EQP WHOLE BASE **x** MU MECH CONT BASE Eq. 6.6

**where:**

EQP WHOLE BASE EQP MECH CONT BASE

MU WHOLE BASE

MU MECH CONT BASE **= wholesaler**  **price of**  **baseline equipment**  **($),**

**= mechanical**  **contractor price**  **of baseline**  **equipment ($),** 

**= wholesaler**  **markup on**  **baseline equipment,** 

**= mechanical**  **contractor markup**  **on baseline**  **equipment.**

**The use**  **of the**  **markups results**  **in the**  **wholesaler (**  EQP WHOLE BASE **) and**  **mechanical**

**contractor (**  EQP MECH CONT BASE **) prices**  **of baseline**  **CRE equipment.** 

6.1.2 Incremental Markups

**Incremental markups**  **are cost**  **multipliers that**  **relate incremental**  **changes in**  **the**

**manufacturer selling**  **price of**  **higher efficiency**  **equipment that**  **result, in**  **this case,**  **from efficiency** 

**improvements, to**  **changes in**  **the wholesaler**  **or contractor**  **sales price,**  **as shown**  **in the**  **following**

**equations:**

**If sold**  **to a**  **customer by**  **the manufacturer**  **through a**  **national account,**  **the following** 

**equation defines**  **the increase**  **in equipment**  **price above**  **that of**  **baseline equipment:** 

EQP NATL ACCNT INCR **=** MFG INCR **x** MU NATL ACCT INCR **x (1+ST)**  Eq. 6.7

**where:**

EQP NATL ACCNT INCR **= incremental**  **equipment price**  **to the**  **national account**  **customer**

**($),**

MFG INCR **= change**  **in the**  **manufacturer selling**  **price of**  **higher efficiency** 

**equipment brought**  **about by**  **an increase**  **in efficiency**  **due to**  **new**

**standards ($),** 

MU NATL ACCT INCR **= national**  **account incremental**  **markup.**

**6­3 If**  **sold by**  **a wholesaler**  **directly to**  **a customer,**  **or by**  **a mechanical**  **contractor after**  **passing**

**through a**  **wholesaler:**

EQP WHOLE INCR **=** MFG INCR **x** MU WHOLE INCR **x (1+**  **ST)** Eq. 6.8

EQP MECH CONT INCR **=** EQP WHOLE INCR **x** MU MECH CONT INCR Eq. 6.9

**where:**

EQP WHOLE INCR **= incremental**  **wholesaler price**  **($),**

EQP MECH CONT INCR **= incremental**  **mechanical contractor**  **price ($),** 

MU WHOLE INCR **= incremental**  **wholesaler markup,** 

MU MECH CONT INCR **= incremental**  **mechanical contractor**  **markup.**

**In these**  **equations** MU NATL ACCTINCR, MU WHOLE INCR **and** MU MECH CONT INCR **refer to**  **the**

**incremental national**  **account, incremental**  **wholesaler, and**  **incremental mechanical**  **contractor**

**markups, respectively,**  **which are**  **applied to**  **the incremental**  **MSP. The**  **use of**  **the incremental** 

**markups results**  **in the**  **incremental wholesaler**  **(** EQP WHOLE INCR **) and**  **incremental mechanical** 

**contractor (**  EQP MECH CONT INCR **) prices.** 

6.1.3 Overall Markups

**Overall markups,**  **including both**  **overall baseline**  **and overall**  **incremental markups,**  **relate**

**the manufacturer**  **selling price**  **to the**  **customer price**  **as indicated**  **by the**  **following equations:** 

EQP CUST BASE **=** MFG BASE **x (**  WT NATL ACCNT BASE **x** MU NATL ACCT BASE + WT WHOLE BASE **x** MU WHOLE

BASE + WT MECH CONT BASE **x** MU WHOLE BASE **x** MU MECH CONT BASE **) x**  **(1+** ST **)**

**=** MFG BASE **x** MU OVERALL BASE Eq. 6.10

EQP CUST INCR **=** MFG INCR **x** (WT NATL ACCNT INCR **x** MU NATL ACCT INCR + WT WHOLE INCR **x** MU WHOLE

INCR + WT MECH CONT INCR **x** MU WHOLE INCR **x** MU MECH CONT INCR **) x**  **(1+** ST **)**

**=** MFG INCR **x** MU OVERALL INCR Eq. 6.11

EQP CUST = EQP CUST BASE + EQP CUST INCR Eq. 6.12

**where:**

MU OVERALL BASE **= overall**  **weighted baseline**  **markup that**  **is the**  **product of**  **all the** 

**weights and**  **baseline markups**  **for each**  **step of**  **the distribution** 

**channel,**

MU OVERALL INCR **= overall**  **weighted incremental**  **markup that**  **is the**  **product of**  **all the** 

**weights and**  **incremental markups**  **for each**  **step of**  **the distribution** 

**channel,**

EQP CUST BASE **= baseline**  **customer price**  **($),**

EQP CUST INCR **= incremental**  **customer price**  **($),**

EQP CUST **= total**  **customer price**  **($),**

WT NATL ACCNT BASE **= weight**  **(percent) of**  **baseline equipment**  **sales through**  **national**

**accounts,**

WT WHOLE BASE **= weight**  **(percent) of**  **baseline equipment**  **sales through**  **wholesalers,**

**6­4**WT MECH CONT BASE **= weight**  **(percent) of**  **baseline equipment**  **sales through**  **mechanical**

**contractors,**

WT NATL ACCNT INCR **= weight**  **(percent) of**  **higher efficiency**  **equipment sales**  **through**

**national accounts,** 

WT WHOLE INCR **= weight**  **(percent) of**  **higher efficiency**  **equipment sales**  **through**

**wholesalers,**

WT MECH CONT INCR **= weight**  **(percent) of**  **higher efficiency**  **equipment sales**  **through**

**mechanical contractors.** 

**The use**  **of the**  **overall baseline**  **and overall**  **incremental markups**  **results in**  **the baseline** 

**customer price**  **(** EQP CUST BASE **) and**  **the incremental**  **customer price**  **(** EQP CUST INCR **). For**  **a particular** 

**higher efficiency**  **level that**  **increases manufacturer**  **selling price**  **of equipment,**  **the total**  **price of** 

**equipment to**  **the customer**  **(** EQP CUST **) is**  **the sum**  **of the**  **baseline customer**  **price (**  EQP CUST BASE **)**

**and the**  **incremental customer**  **price (**  EQP CUST INCR **).**

6.2 BASIC ASSUMPTIONS USED TO ESTIMATE WHOLESALER AND

MECHANICAL CONTRACTOR MARKUPS

**DOE derived**  **the wholesaler**  **and mechanical**  **contractor markups**  **from three**  **key**

**assumptions about**  **CRE costs.**  **DOE based**  **the wholesaler**  **markups on**  **industry balance­sheet** 

**data and**  **based the**  **mechanical contractor**  **markups on**  **U.S. Census**  **Bureau data**  **for the**  **plumbing,**

**heating, and**  **air conditioning**  **(PHAC) industry.**  **1 DOE**  **obtained the**  **industry balance**  **sheet data** 

**from the**  **Heating, Airconditioning**  **& Refrigeration**  **Distributors International**  **(HARDI), the**  **trade**

**association representing**  **wholesalers of**  **refrigeration and**  **heating, ventilating,**  **and air** 

**conditioning (HVAC)**  **equipment. DOE**  **put the**  **U.S. Census**  **Bureau Plumbing,**  **Heating, and** 

**Air­Conditioning Contractors**  **data that**  **was used**  **for developing**  **mechanical contractor**  **markups**

**into the**  **same format**  **as the**  **balance sheet**  **data for**  **wholesalers. These**  **balance sheets**  **break out** 

**the components**  **of all**  **costs incurred**  **by firms**  **that supply**  **and install**  **PHAC equipment.**  **The**

**three key**  **assumptions used**  **to estimate**  **markups using**  **these financial**  **data are:** 

**1. The**  **firm balance**  **sheets accurately**  **represent the**  **various average**  **costs incurred**  **by firms** 

**distributing and**  **installing CRE**  **equipment.**

**2. The**  **wholesaler and**  **contractor costs**  **can be**  **divided into**  **two categories:**  **(1) costs**  **that**

**vary in**  **proportion to**  **the MSP**  **of CRE**  **equipment (variable**  **costs); and**  **(2) costs**  **that do** 

**not vary**  **with the**  **manufacturer selling**  **price of**  **CRE equipment**  **(fixed costs).** 

**3. Wholesaler**  **and contractor**  **prices vary**  **in proportion**  **to wholesaler**  **and contractor**  **costs**

**included in**  **the balance**  **sheets.**

**In support**  **of the**  **first assumption,**  **the balance**  **sheets itemize**  **firm costs**  **into a**  **number of** 

**cost categories,**  **including direct**  **costs to**  **purchase or**  **install the**  **equipment, operating**  **labor and** 

**occupancy costs,**  **and other**  **operating costs**  **and profit.**  **Although wholesalers**  **and contractors** 

**tend to**  **handle multiple**  **commodity lines**  **(including air**  **conditioners, furnaces,**  **and boilers)**  **the**

**data provide**  **the most**  **accurate available**  **indication of**  **CRE equipment**  **costs.**

**Previous DOE**  **analysis of**  **the HVAC**  **wholesalers, contractors,**  **and consultants,**  **including**

**information obtained**  **from the**  **trade literature,**  **support the**  **second assumption.**  **2,3 This**  **analysis**

**indicates that**  **wholesaler and**  **contractor markups**  **vary according**  **to the**  **quantity of**  **labor and** 

**6­5 materials**  **used to**  **distribute and**  **install appliances,**  **with markups**  **on labor**  **tending to**  **be much** 

**larger than**  **markups on**  **materials. The**  **analysis implies**  **that these**  **distribution channel**  **markups**

**vary more**  **in relation**  **to sales**  **volume than**  **in relation**  **to other**  **factors, including**  **appliance**

**efficiency. Distribution**  **channel labor**  **inputs also**  **vary more**  **with sales**  **volume than**  **with**

**appliance cost**  **or efficiency.**  **DOE assumed**  **a division**  **of costs**  **between those**  **that do**  **not scale** 

**with the**  **manufacturer selling**  **price (labor**  **and occupancy**  **costs), and**  **those that**  **do (operating** 

**costs and**  **profit). This**  **division of**  **costs led**  **to the**  **estimate of**  **wholesaler and**  **mechanical**

**contractor markups**  **described below.** 

**In support**  **of the**  **third assumption,**  **the HVAC**  **wholesaler and**  **contractor industry**  **is**

**competitive and**  **customer demand**  **for commercial**  **heating and**  **air conditioning**  **is relatively** 

**inelastic, i.e.,**  **the demand**  **is not**  **expected to**  **decrease significantly**  **with an**  **increase in**  **price of** 

**equipment. The**  **large number**  **of wholesaler**  **firms listed**  **in the**  **2002 Census**  **indicates the** 

**competitive nature**  **of the**  **market. For**  **example, there**  **are almost**  **1,400 wholesalers**  **of**

**refrigeration equipment,**  **and 87,000**  **HVAC contractors.**  **4 Following**  **standard economic**  **theory,**

**competitive firms**  **facing inelastic**  **demand either**  **set prices**  **in line**  **with costs**  **or quickly**  **go out**  **of**

**business. 5** 

6.3 ESTIMATION OF WHOLESALER MARKUPS

**Wholesalers report**  **median data**  **in a**  **confidential survey**  **that HARDI**  **conducted of** 

**member firms.**  **6 In**  **the survey,**  **HARDI itemizes**  **revenues and**  **costs into**  **cost categories,** 

**including direct**  **equipment expenses**  **(cost of**  **goods sold),**  **labor expenses,**  **occupancy expenses,** 

**other operating**  **expenses, and**  **profit. It**  **reports data**  **for various**  **industry segments,**  **including the** 

**Controls and**  **Refrigeration industry**  **segment in**  **terms of**  **industry median**  **values. DOE**  **presents**

**these data**  **for Controls**  **and Refrigeration**  **in terms**  **of specific**  **types of**  **expense within**  **these**

**categories in**  **Appendix C.**  **Table 6.3.1**  **summarizes these**  **expenses as**  **cost per**  **dollar sales** 

**revenue in**  **the first**  **data column.**  **As shown**  **in this**  **column, the**  **direct equipment**  **expenses (cost** 

**of goods**  **sold) represent**  **about $0.70**  **per dollar**  **sales revenue.**  **In other**  **words, for**  **every $1** 

**wholesalers take**  **in as**  **sales revenue,**  **they use**  **$0.70 to**  **pay the**  **direct equipment**  **costs. Labor** 

**expenses account**  **for $0.20**  **per dollar**  **sales revenue,**  **occupancy expenses**  **account for**  **$0.03,**

**other operating**  **expenses account**  **for $0.04,**  **and profit**  **accounts for**  **$0.03 per**  **dollar sales** 

**revenue.**

Table 6.3.1 Wholesaler Expenses and Markups*

Description Wholesale Firm Expenses or Revenue

Per Dollar

Sales Revenue Per Dollar Cost

of Goods Sold

Direct Cost of Equipment Sales: **Cost of**  **goods sold** 

Labor Expenses: **Salaries and**  **benefits**

Occupancy Expense: **Rent, maintenance,**  **and utilities** 

Other Operating Expenses: **Depreciation, advertising,**  **and insurance** 

Profit **$0.70**

**$0.20**

**$0.03**

**$0.04**

**$0.03 $1.00** 

**$0.28**

**$0.05**

**$0.06**

**$0.04**

Baseline Markup ( MU WHOLE BASE ): **Revenue per**  **dollar cost**  **of goods**  **sold** 1.43

Incremental Markup ( MU WHOLE INCR ): **Increased revenue**  **per dollar**  **increase cost**  **of goods**  **sold** 1.10

***** **Source: Heating,**  **Airconditioning &**  **Refrigeration Distributors**  **International. 2005.**  **2005 Profit**  **Report (2004**  **Data).**

**6­6 The**  **last column**  **of Table**  **6.3.1 shows**  **the data**  **converted from**  **costs per**  **dollar revenue** 

**into revenue**  **per dollar**  **cost of**  **goods sold.**  **DOE did**  **this conversion**  **by dividing**  **each cost** 

**category in**  **the first**  **data column**  **of Table**  **6.3.1 by**  **$0.70 (i.e.,**  **equipment expenditure**  **per dollar** 

**revenue). The**  **data in**  **the last**  **column show**  **that, for**  **every $1.00**  **the wholesaler**  **spends on** 

**equipment costs,**  **the wholesaler**  **earns $1.00**  **in sales**  **revenue to**  **cover the**  **equipment cost,**  **$0.28**

**to cover**  **labor costs,**  **$0.05 to**  **cover occupancy**  **expenses, $0.06**  **for other**  **operating expenses,**  **and**

**$0.04 in**  **profits. This**  **totals to**  **$1.43 in**  **sales revenue**  **earned for**  **every $1.00**  **spent on**  **equipment**

**costs. Therefore,**  **the wholesaler**  **baseline markup**  **(** MU WHOLE BASE **) is**  **1.43 ($1.43**  **÷ $1.00).** 

**DOE also**  **used the**  **data in**  **the last**  **column to**  **estimate the**  **incremental markups.**  **The**

**incremental markup**  **depends on**  **which of**  **the costs**  **in Table**  **6.3.1 are**  **variable and**  **which are** 

**fixed. For**  **example, for**  **a $1.00**  **increase in**  **the manufacturer**  **equipment price,**  **if all**  **of the**  **other**

**costs scale**  **with the**  **manufacturer selling**  **price (i.e.,**  **all costs**  **are variable),**  **the increase**  **in**

**wholesaler price**  **will be**  **$1.43, implying**  **that the**  **incremental markup**  **is 1.43,**  **or the**  **same as**  **the**

**baseline markup.**  **However, if**  **none of**  **the other**  **costs are**  **variable, then**  **a $1.00**  **increase in**  **the**

**manufacturer selling**  **price will**  **lead to**  **a $1.00**  **increase in**  **the wholesaler**  **price, for**  **an**

**incremental markup**  **of 1.0.**  **DOE assumes**  **that the**  **labor and**  **occupancy costs**  **will be**  **fixed and** 

**that the**  **other operating**  **costs and**  **profit will**  **scale with**  **the manufacturer**  **selling price**  **(i.e., be** 

**variable). In**  **this case,**  **for a**  **$1.00 increase**  **in the**  **manufacturer selling**  **price, the**  **wholesaler**

**price will**  **increase by**  **$1.10, giving**  **a wholesaler**  **incremental markup**  **(** MU WHOLE INCR **) of** 

**1.10 ($1.10**  **÷ $1.00).** 

**DOE recognizes**  **that there**  **is a**  **possibility of**  **case­to­case deviation**  **in the**  **markups**

**developed from**  **the above**  **financial data.**  **Based on**  **the analysis**  **of U.S.**  **Census Bureau**  **data for** 

**wholesalers, DOE**  **calculated a**  **standard deviation**  **of 4.2**  **percent. DOE**  **assumed that**  **the**

**variation determined**  **for the**  **baseline markup**  **applied to**  **the incremental**  **markup as**  **well. For**  **the**

**baseline markup**  **of 1.43,**  **a standard**  **deviation of**  **4.2 percent**  **translates into**  **an absolute**  **value of** 

**0.06 and**  **for the**  **incremental markup**  **of 1.10,**  **a standard**  **deviation of**  **4.2 percent**  **translates into** 

**an absolute**  **value of**  **0.05. However,**  **the national**  **data on**  **distribution of**  **CRE units**  **suggests that** 

**only about**  **14 percent**  **of new**  **units sold**  **actually pass**  **through wholesalers.**  **The case­to­case** 

**deviation of**  **wholesale markup**  **thus has**  **a very**  **small impact**  **on the**  **overall cost**  **of equipment**  **and**

**can be**  **neglected. DOE**  **applied the**  **same baseline**  **and incremental**  **markup to**  **all sales**  **of CRE** 

**units passing**  **through wholesalers.**  **Further details**  **of these**  **data are**  **shown in**  **Appendix C.** 

6.4 ESTIMATION OF MECHANICAL CONTRACTOR MARKUPS

**DOE derived**  **markups for**  **mechanical contractors**  **from U.S.**  **Census Bureau**  **data for** 

**Plumbing, Heating,**  **and Air­Conditioning**  **Contractors (PHAC)**  **(North American**  **Industry**

**Classification System**  **238220). This**  **sector includes**  **establishments primarily**  **engaged in** 

**installing and**  **servicing plumbing,**  **heating, and**  **air­conditioning equipment,**  **which may**  **include**

**new work,**  **additions, alterations,**  **maintenance, and**  **repairs. The**  **U.S. Census**  **Bureau data**  **for the** 

**PHAC sector**  **include detailed**  **statistics for**  **establishments with**  **payrolls, similar**  **to the**  **data**

**reported by**  **HARDI for**  **wholesalers. The**  **primary difference**  **is that**  **the U.S.**  **Census Bureau** 

**reports itemized**  **revenues and**  **expenses for**  **the PHAC**  **industry as**  **a whole**  **in total**  **dollars rather** 

**than in**  **typical values**  **for an**  **average or**  **representative business.**  **Because of**  **this, DOE**  **assumed**

**that the**  **total dollar**  **values that**  **the U.S.**  **Census Bureau**  **reported, once**  **converted to**  **a percentage** 

**basis, represented**  **revenues and**  **expenses for**  **an average**  **or typical**  **contracting business.**  **As with** 

**6­7 the**  **data for**  **wholesalers, Table**  **6.4.1 summarizes**  **the expenses**  **for mechanical**  **contractors, as** 

**expenses per**  **dollar sales**  **revenue, in**  **the first**  **data column**  **(Appendix C**  **contains the**  **full set**  **of**

**data). The**  **direct cost**  **of sales**  **represents about**  **$0.66 per**  **dollar sales**  **revenue to**  **the mechanical** 

**contractor. Labor**  **expenses account**  **for $0.17**  **per dollar**  **sales revenue,**  **occupancy expenses** 

**account for**  **$0.02 per**  **dollar sales**  **revenue, other**  **operating expenses**  **account for**  **$0.03, and**  **profit**

**makes up**  **$0.12 per**  **dollar sales**  **revenue.**

**DOE converted**  **these expenses**  **per dollar**  **sales into**  **revenue per**  **dollar cost**  **of goods**  **sold,**

**by dividing**  **each figure**  **in the**  **first data**  **column by**  **$0.66. The**  **data in**  **the last**  **column show**  **that,**

**for every**  **$1.00 the**  **mechanical contractor**  **spends on**  **equipment costs,**  **the mechanical**  **contractor**

**earns $1.00**  **in sales**  **revenue to**  **cover the**  **equipment cost,**  **$0.26 to**  **cover labor**  **costs, $0.03**  **to**

**cover occupancy**  **expenses, $0.05**  **for other**  **operating expenses,**  **and $0.18**  **in profits.**  **This totals** 

**$1.52 in**  **sales revenue**  **earned for**  **every $1.00**  **spent on**  **equipment costs.**  **This results**  **in a** 

**mechanical contractor**  **baseline markup**  **(** MU MECH CONT BASE **) of**  **1.52 ($1.52**  **÷ $1.00).** 

Table 6.4.1 Mechanical Contractor Expenses and Markups*

Description Mechanical Contractor Firm

Expenses or Revenue

Per Dollar

Sales Revenue Per Dollar Cost

of Goods Sold

Direct Cost of Equipment Sales: **Cost of**  **goods sold** 

Labor Expenses: **Salaries (indirect)**  **and benefits** 

Occupancy Expense: **Rent, maintenance,**  **and utilities** 

Other Operating Expenses: **Depreciation, advertising,**  **and insurance** 

Net Profit Before Taxes **$0.66**

**$0.17**

**$0.02**

**$0.03**

**$0.12 $1.00** 

**$0.26**

**$0.03**

**$0.05**

**$0.18**

Baseline Markup ( MU WHOLE BASE ): **Revenue per**  **dollar cost**  **of goods**  **sold** 1.52

Incremental Markup ( MU WHOLE INCR ): **Increased revenue**  **per dollar**  **increase cost**  **of goods**  **sold** 1.23

***** **Source: U.S.**  **Census Bureau.**  **2002. Plumbing,**  **Heating, and**  **Air­Conditioning Contractors:**  **2002. Report**  **EC02­231­238220, Table**  **4. Detailed** 

**Statistics for**  **Establishments: 2002.** 

**DOE was**  **also able**  **to use**  **the data**  **in the**  **last column**  **in Table**  **6.4.1 to**  **estimate the** 

**incremental markups**  **by being**  **able to**  **separate the**  **fixed and**  **variable costs.**  **For example,**  **if all** 

**of the**  **other costs**  **scale with**  **the equipment**  **price (i.e.,**  **all costs**  **are variable),**  **the increase**  **in**

**mechanical contractor**  **price will**  **be $1.52,**  **implying that**  **the incremental**  **markup is**  **1.52, or**  **the**

**same as**  **the baseline**  **markup. However,**  **if none**  **of the**  **other costs**  **are variable,**  **then a**  **$1.00**

**increase in**  **the equipment**  **price will**  **lead to**  **a $1.00**  **increase in**  **the mechanical**  **contractor price,** 

**for an**  **incremental markup**  **of 1.0.**  **DOE assumes**  **the labor**  **and occupancy**  **costs to**  **be fixed**  **and**

**the other**  **operating costs**  **and profit**  **to scale**  **with the**  **equipment price**  **(i.e., be**  **variable). In**  **this**

**case, for**  **a $1.00**  **increase in**  **the equipment**  **price, the**  **mechanical contractor**  **price will**  **increase by** 

**$1.23, giving**  **a mechanical**  **contractor incremental**  **markup (**  MU MECH CONT INCR **) of** 

**1.23 ($1.23**  **÷ $1.00).** 

6.4.1 Estimation of Mechanical Contractor Markup Probability Distribution

**Mechanical contractor**  **costs differ**  **in various**  **regions of**  **the country**  **for reasons**  **including**

**availability of**  **labor, cost**  **of living,**  **union versus**  **non­union workforce,**  **and others.**  **Because**

**many mechanical**  **contractor costs**  **differ systematically**  **by state,**  **DOE characterized**  **the markups** 

**developed from**  **U.S. Census**  **Bureau data**  **with a**  **probability distribution**  **based on**  **a state­by­state** 

**analysis of**  **U.S. Census**  **Bureau data**  **for PHAC**  **contractors. The**  **state­by­state analysis**  **provided**

**6­8 a**  **distribution on**  **the relative**  **markups of**  **mechanical contractors**  **in the**  **United States.**  **DOE then** 

**applied the**  **State­level index**  **to the**  **single­point baseline**  **and incremental**  **markups calculated** 

**above to**  **create State­level**  **markups. Because**  **the state­by­state**  **distribution of**  **CRE units**  **varies**

**by type**  **of customer**  **(e.g., supermarkets**  **may be**  **more prevalent**  **relative to**  **convenience stores**  **in**

**one part**  **of the**  **country than**  **another), a**  **national­level distribution**  **of the**  **mechanical contractor** 

**markup index**  **is different**  **for each**  **class of**  **building.**

**Figure 6.4.1**  **shows the**  **cumulative probability**  **distribution of**  **the State**  **markup index**  **that**

**DOE used**  **to characterize**  **the mechanical**  **contractor baseline**  **and incremental**  **markups for** 

**supermarkets.**

Mechanical Contractor Markups for Supermarkets

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%

1.35 1.4 1.45 1.5 1.55 1.6 1.65 1.7

MarkupCumulativePercentage Mechanical Contractor

Markup for Supermakets

Figure 6.4.1 Cumulative National Sales­Weighted Distribution of Mechanical Contractor

Markups for Commercial Refrigeration Equipment Sales to Supermarkets

6.5 SALES TAX

**The sales**  **tax represents**  **State and**  **local sales**  **taxes that**  **are applied**  **to the**  **customer price** 

**of CRE**  **units. The**  **sales tax**  **is a**  **multiplicative factor**  **that increases**  **the customer**  **equipment**

**price. DOE**  **derived sales**  **taxes representative**  **of the**  **combined State**  **and local**  **sales tax**  **rates**

**from the**  **Sales Tax**  **Clearinghouse, 7**  **shown in**  **Table 6.5.1.**  **The State**  **level combined**  **tax rates** 

**can be**  **applied to**  **the estimated**  **value of**  **State level**  **CRE equipment**  **shipments to**  **obtain the**  **total**

**purchase cost**  **to the**  **customer located**  **in any**  **state.**

**The distribution**  **of sales**  **tax rates**  **ranges from**  **a minimum**  **of zero**  **percent to**  **a maximum** 

**of 9.4**  **percent with**  **a mean**  **value of**  **6.8 percent.**  **DOE applied**  **sales taxes**  **to the**  **customer**

**equipment price**  **irrespective of**  **the distribution**  **channel and**  **the market**  **in which**  **the customer**  **is**

**located.**

**A weighted­average**  **national level**  **sales tax**  **rate is**  **calculated by**  **multiplying the**  **shares of** 

**state level**  **shipments for**  **each of**  **the four**  **sectors by**  **the tax**  **rates in**  **Table 6.5.1.**  **This provides**  **a**

**weighted national**  **average sales**  **tax rate**  **for the**  **four sectors**  **based estimated**  **CRE equipment** 

**sales to**  **each of**  **the four**  **sectors as**  **shown in**  **Table 6.5.2.** 

**6­9**Table 6.5.1 State Sales Tax Rates

State Combined

State and

Local Tax

Rate State Combined

State and

Local Tax

Rate State Combined

State and

Local Tax

Rate

**Alabama 8.05%**  **Kentucky 6.00%**  **North Dakota**  **5.50%**

**Alaska 1.15%**  **Louisiana 8.60%**  **Ohio 6.75%** 

**Arizona 7.65%**  **Maine 5.00%**  **Oklahoma 8.15%** 

**Arkansas 8.00%**  **Maryland 5.00%**  **Oregon 0.00%** 

**California 7.95%**  **Massachusetts 5.00%**  **Pennsylvania 6.25%** 

**Colorado 6.15%**  **Michigan 6.00%**  **Rhode Island**  **7.00%**

**Connecticut 6.00%**  **Minnesota 6.70%**  **South Carolina**  **5.80%**

**Delaware 0.00%**  **Mississippi 7.00%**  **South Dakota**  **5.25%**

**Dist. of**  **Columbia 5.75%**  **Missouri 6.85%**  **Tennessee 9.40%** 

**Florida 6.70%**  **Montana 0.00%**  **Texas 7.95%** 

**Georgia 6.90%**  **Nebraska 6.30%**  **Utah 6.45%** 

**Hawaii 4.00%**  **Nevada 7.50%**  **Vermont 6.00%** 

**Idaho 5.05%**  **New Hampshire**  **0.00% Virginia**  **5.00%**

**Illinois 7.55%**  **New Jersey**  **6.00% Washington**  **8.45%**

**Indiana 6.00%**  **New Mexico**  **6.55% West**  **Virginia 6.00%** 

**Iowa 6.60%**  **New York**  **8.25% Wisconsin**  **5.40%**

**Kansas 6.95%**  **North Carolina**  **7.05% Wyoming**  **5.35%**

Table 6.5.2 National Average Weighted Sales Tax Rates, based on Estimated

Commercial Refrigeration Equipment Shipments by State

Supermarkets

and Grocery

Stores

(44511) Convenience

and Specialty

Stores (44512,

4452, and 4453) Gasoline

Stations with

Convenience

Stores (44711) Warehouse

Clubs and

Supercenters

(45291)

**Weighted Sales** 

**Tax Rate**  **by**

**Retail Sector**  **6.77% 6.66%**  **6.81% 6.73%** 

**Weighted Sales** 

**Tax Rate**  **all**

**Retail Sectors**  **6.76%**

**Because the**  **state­by­state distribution**  **of CRE**  **units varies**  **by type**  **of customer** 

**(e.g., supermarkets**  **may be**  **more prevalent**  **relative to**  **convenience stores**  **in one**  **part of**  **the**

**country than**  **another), a**  **national­level distribution**  **of the**  **sales tax**  **markups is**  **different for**  **each**

**class of**  **building.**

**Figure 6.5.1**  **shows the**  **cumulative probability**  **distribution of**  **the state**  **tax rates**  **that DOE** 

**used to**  **characterize sales**  **tax markups**  **for supermarkets.** 

**6­10**Sales Tax Rates, CRE Sales to Supermarkets

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%

0.00% 1.00% 2.00% 3.00% 4.00% 5.00% 6.00% 7.00% 8.00% 9.00% 10.00%

Combined State and Local RatesCumullativePercentofEquipmentSales Sales Tax Rates

Figure 6.5.1 Cumulative National Sales­Weighted Distribution of Sales Tax Rates for

Commercial Refrigeration Equipment Sales to Supermarkets

6.6 NATIONAL ACCOUNTS

**Equipment purchased**  **through national**  **accounts constitutes**  **about 86**  **percent of**  **the usual** 

**distribution of**  **CRE equipment**  **to customers.**  **Large customers**  **of CRE**  **equipment use**  **national**

**accounts to**  **circumvent the**  **typical distribution**  **channel, thereby**  **allowing them**  **to negotiate** 

**significantly lower**  **equipment prices**  **directly with**  **the manufacturer.**  **The manufacturer**  **in turn** 

**must cover**  **additional expenses**  **related to**  **the distribution**  **(as opposed**  **to the**  **manufacture) of**  **the**

**equipment, but**  **gains in**  **terms of**  **negotiating agreed**  **upon sales**  **volumes with**  **the customer.** 

**To capture**  **the price**  **savings realized**  **from equipment**  **purchased through**  **national**

**accounts, DOE**  **derived a**  **national account**  **markup, assuming**  **that the**  **resulting equipment**  **price**

**increase was**  **one half**  **of that**  **realized from**  **a distribution**  **through the**  **wholesaler channel.**  **In**

**other words,**  **if the**  **price increase**  **resulting from**  **the wholesaler**  **markups is**  **$100, the**  **national**

**account markup**  **is such**  **that the**  **price increase**  **is one­half**  **of that,**  **or $50.**  **DOE based**  **the use**  **of a** 

**national account**  **markup that**  **is one­half**  **of that**  **realized from**  **the wholesaler**  **distribution channel** 

**on the**  **assumption that**  **the resulting**  **national account**  **equipment price**  **must fall**  **somewhere**

**between the**  **manufacturer selling**  **price (i.e.,**  **a markup**  **of 1.0)**  **and the**  **customer price**  **under the** 

**wholesaler distribution**  **channel. Because**  **DOE did**  **not know**  **typical values**  **for the**  **actual**

**national account**  **equipment price,**  **it chose**  **a value**  **of one­half.** 

**To illustrate**  **the development**  **of the**  **national account**  **markup further,**  **this section** 

**provides the**  **following example**  **of how**  **DOE derived**  **it. For**  **example, using**  **a baseline** 

**manufacturer selling**  **price of**  **$1,000 for**  **a CRE**  **unit delivered**  **to a**  **supermarket and**  **baseline**

**wholesaler markups**  **of 1.436,**  **the resulting**  **baseline customer**  **equipment price**  **for sales**  **through a** 

**wholesaler (without**  **sales taxes)**  **is $1,436**  **($1,000 x**  **1.436). The**  **dollar value**  **increase due**  **to the** 

**above distribution**  **channel markups**  **is $436**  **($1,436 ­ $1,000).**  **Under the**  **assumption that** 

**national account**  **customers realize**  **equipment price**  **increases equal**  **to one­half**  **of that**  **through**

**the wholesale**  **distribution channel,**  **the dollar**  **value of**  **the equipment**  **price increase**  **under the** 

**national account**  **is $218**  **(one­half of**  **$436). The**  **resulting equipment**  **price is**  **$1,218**

**6­11 ($218**  **+ $1,000),**  **which results**  **in a**  **deduced national**  **account baseline**  **markup of**  **approximately**

**1.218 ($1,218**  **÷ $1,000).**  **A similar**  **calculation results**  **in a**  **deduced national**  **account incremental** 

**markup of**  **1.054 ($1,054**  **÷ $1,000).** 

6.7 OVERALL MARKUPS

**DOE multiplied**  **the wholesaler,**  **mechanical contractor,**  **and national**  **account markups** 

**described above**  **by the**  **weighted average**  **sales tax**  **multiplier to**  **obtain the**  **overall baseline**  **and**

**incremental markups**  **shown in**  **Table 6.7.1**  **and Table**  **6.7.2 DOE**  **based overall**  **markups on**  **one**

**of three**  **distribution channels**  **according to**  **how the**  **equipment is**  **purchased: through**  **a national** 

**account; a**  **wholesaler; or**  **a wholesaler**  **and a**  **mechanical contractor,**  **and the**  **State into**  **which the** 

**CRE unit**  **is delivered.**  **Table 6.7.1**  **presents three**  **overall markups**  **for the**  **overall baseline** 

**markup for**  **both remote­condensing**  **and self­contained**  **equipment, and**  **Table 6.7.2**  **presents the** 

**same information**  **for overall**  **incremental markups**  **for supermarkets,**  **as an**  **example.**

Table 6.7.1 Baseline Markups by Distribution Channel and Overall Weighted Average

Markup, Including the Weighted Average Sales Tax Multiplier for

Supermarkets

Wholesaler Mechanical

Contractor

(Includes

Wholesaler) National Account

(Mfg Direct) Overall Weighted Average

Markup

RemoteCondensing

Equipment Self­Contained

Equipment

Distributor(s)

Markup **1.436 2.182**  **1.218 1.395**  **1.631**

Sales Tax

Multiplier **1.068 1.068**  **1.068 1.068**  **1.068**

Overall

Markup **1.533 2.330**  **1.300 1.490**  **1.742**

Table 6.7.2 Incremental Markups by Distribution Channel and Overall Weighted

Average Markup, Including the Weighted Average Sales Tax Multiplier for

Supermarkets

Wholesaler Mechanical

Contractor

(Includes

Wholesaler) National Account

(Mfg Direct) Overall Weighted Average

Markup

RemoteCondensing

Equipment SelfContained

Equipment

Distributor(s)

Markup **1.107 1.362**  **1.054 1.108**  **1.180**

Sales Tax

Multiplier **1.068 1.068**  **1.068 1.068**  **1.068**

Overall

Markup **1.182 1.454**  **1.125 1.183**  **1.260**

**DOE used**  **the overall**  **markups to**  **estimate the**  **customer price**  **of baseline**  **equipment,**

**given the**  **manufacturer cost**  **of baseline**  **equipment. For**  **example, if**  **the manufacturer**  **selling**

**price of**  **a baseline**  **remote­condensing CRE**  **unit is**  **$1,000, DOE**  **can multiply**  **this by**  **the**

**6­12 weighted­average**  **overall baseline**  **markup to**  **estimate that**  **the baseline**  **customer price**  **of the** 

**CRE unit**  **sold is**  **$1,490. Similarly,**  **DOE used**  **the overall**  **incremental markup**  **to estimate** 

**changes in**  **the customer**  **price, given**  **changes in**  **the manufacturer**  **selling price**  **above the**  **baseline**

**due to**  **increases in**  **equipment efficiency.**  **For example,**  **if a**  **new standard**  **for remote­condensing** 

**equipment increases**  **the CRE**  **manufacturer selling**  **price by**  **$100, DOE**  **can multiply**  **this price** 

**($100) by**  **the weighted­average**  **overall incremental**  **markup (1.183)**  **to estimate**  **a customer**  **price**

**increase of**  **$118.**

6.8 RESULTS

**The overall**  **baseline and**  **overall incremental**  **markups are**  **presented in**  **section 6.7.**  **These**

**markups will**  **be used**  **with the**  **MSPs to**  **generate customer**  **prices for**  **commercial refrigeration** 

**equipment. Supporting**  **data for**  **the calculation**  **of baseline**  **and incremental**  **markups are** 

**provided in**  **Appendix C.** 

**6­13**REFERENCES

**1 U.S.**  **Census Bureau.**  **2002. Plumbing,**  **Heating and**  **Air­Conditioning Contractors**  **(PHAC):**

**2002. Report**  **EC­02­231­238220.**

**2 Lawrence**  **Berkeley National**  **Laboratory (LBNL)**  **2004. An**  **Analysis of**  **Price Determination** 

**and Markups**  **in the**  **Air­Conditioning and**  **Heating Equipment**  **Industry. LBNL­52791.** 

**3 Mark**  **Metoyer as**  **reported in**  **Mark Skaer,**  **“What should**  **you charge?**  **Try These**  **Tested**

**Formulas,” Air**  **Conditioning, Heating**  **and Refrigerator**  **News, March**  **26, 2001.** 

**4 U.S.**  **Census Bureau.**  **2002. Electrical,**  **Hardware, Plumbing,**  **and Heating**  **Equipment and** 

**Supplies: 2002.**  **Report EC­02­421­17.** 

**5 Pindyck,**  **R. and**  **D. Rubinfield.**  **2000. Microeconomics,**  **Prentice­Hall.**

**6 Heating,**  **Air Conditioning**  **& Refrigeration**  **Distributors International**  **(HARDI). 2005.**  **2005**

**Profit Report**  **(2004 Data).** 

**7 The**  **Sales Tax**  **Clearinghouse. Accessed**  **https://thestc.com/STRates.stm.**

**6­14**