Contractors are either selling finished buildings (highways, bridges, etc.) to ultimate owners or they are providing owners with construction services. Not both. The legal structure of construction contracts holds the contractor responsible not only for erecting a structure that meets design specifications and safety and endurance standards but also holds them legally responsible for the cost that their estimators guessed at in advance, and a completion date envisioned by the owner. Construction contracts are not “mutual agreements” to erect a structure on behalf of the owner, but rather legally binding performance contracts that place the entire financial transaction risk on the contractor’s shoulders.
Unreasonable
This legally enforceable agreement may have been more “reasonable” if project owners had put up all the money and had their financial neck stuck out a mile. But this is not the case. The project owner puts no money at risk until the contractor can prove he has erected a portion of the project to the owner’s satisfaction and, therefore, deserves to be paid for that portion. Since partial payments are made only after the work is put in place, project owners still have nothing at risk. In effect, contractors have assumed the entire financial risk for a construction project they don’t even own.
An Absurd Self-Image
And the construction business transaction gets even more absurd. Contractors have been “swindled” into accepting all the financial risk for a project they don’t own and have no upside in its ultimate disposition. What’s even more absurd is that contractors have adopted a belief that this is a proper financial transaction and have accepted the unwarranted assumption that project owners have every right to protect themselves from unsavory and incompetent contractors (them). In the strangest unconscious twist in American business history, some contractors have come to believe that they are the potential villains in the construction transaction and that owners are wise to protect themselves from mismanagement and potential fraud on their part!
Bad Beliefs
Any of my readers who have been following my work have heard me say all this before. Contractors have gradually been put in the position to eagerly participate in business transactions (typical construction contracts) that place all the financial risk on their shoulders and severely limit their ability to make a reasonable profit. The construction business transaction has been corrupted, and there doesn’t seem to be anything we can do about it.
Here’s How one Contractor Put It
I recently received an email from the President of a successful construction company. Here’s what he had to say…
Good morning Dr. Schleifer,
…After reading last week’s newsletter, I felt compelled to reach out and share something I find myself thinking almost every time the topic of profitability in construction is raised, particularly your recent points:
- Construction companies should not experience the second-highest failure rate in American industry, just behind restaurants.
- Construction companies should not have to low bid for multi-million-dollar contracts that take years to execute while assuming most of the financial risk.
- Construction companies should not have to wait patiently to be paid while a third party decides if payment is even due.
I could not agree more. Our industry quite literally builds and maintains the physical world that society depends on, yet the business model often seems stacked against the very companies doing the work.
My question is this: how do we actually change it?
It often feels like those of us trying to restore healthy margins and disciplined decision-making have our knees taken out by the rogue low bidder willing to work for almost nothing. We are actively pursuing negotiated work and opportunities where qualifications, reputation, and interviews influence award decisions. At the same time, winning some low-bid work to build experience, strengthen our portfolio, and simply keep the lights on remains a necessity at our stage of growth.
At times it makes the business feel as though we are perpetually half in growth mode and half in survival mode (…sometimes more than half).
How I See It
This contractor explains the dilemma our industry is facing better than I could. You can feel by the tone of his letter that he and his company are in the thick of the battle for improved profit margins.
The first step toward changing conduct is reexamining the belief that engendered the conduct in the first place.
Next week I will share some techniques on how to reexamine beliefs and change habitual conduct.
For more information on contracts, read more at: CONTRACTS
For a broader view of organizational transformation, read more at: TRANSFORMATION
To receive the free weekly Construction Messages, ask questions, or make comments contact me at research@simplarfoundation.org.
Please circulate this widely. It will benefit your constituents. This research is continuous and includes new information weekly as it becomes available. Thank you.
