Can You Be Flexible?
Thomas C Schleifer, Ph.D.
The construction industry is an outlier that evades classic management theory taught at all the nation’s prestigious business schools.
- The price of our construction services is set well in advance typically through a competitive bidding process.
- Our work is performed through a complex partnership of independent specialists over which we have limited control.
- It sometimes takes years to deliver the final product and get paid.
- There is no continuum of services in the construction market. Contractors hop from job to job and every new job is almost like a new business.
- Construction top-line volatility eradicates the inclining growth curve that is the alchemy of efficiency leading to profitability for all other industrial companies. The most recent Dodge forecast demonstrates this volatility in today’s market.
“Overall construction starts are expected to be flat in 2023, following a 17% increase in 2022”, Richard Branch, chief economist at Dodge Construction Network, said during the 2023 Dodge Construction Outlook. Branch presented the outlook on Nov. 15, noting that the forecast assumes the U.S. will narrowly avoid recession. “We’re walking the razor’s edge here,” he said. “The 2022 increase will bring total starts to $1.086 billion, but $1.083 billion is predicted for 2023.” Dodge forecasts that the dollar value of commercial construction—which includes warehouses, offices, retail, and hotels—will finish 2022 up 24% before dropping 3% in 2023.
(The Dodge Forecast)
Out of Bounds
After 30 years as a contractor, I retired into education. Throughout my second career as a professor of construction business management and a consultant to many contracting firms, I have taught outside the bounds of traditional business management theory because our business does not fit the traditional models.
We contractors move from contract to contract sometimes working 10 or 15 projects at the same time. Every new job is essentially estimated, billed, and executed as a separate business without the success of one project having much impact on the success of the next. In other words, unlike any other industry, every time a contractor starts a new project it’s like going into business for the first time; new price, new client, new design, new specs, new partners, new location, new time frame; everything new.
This unique business model means that there is no organizational continuum in contracting. Most industries set up the overhead needed to produce a product and then grow the business beyond the overhead cost increasing profits as they expand. Contractors traditionally build overhead concurrent with growth. Overhead grows as the business grows maintaining efficient overhead productivity along the way. However, the construction industry does not grow in a straight line but rather experiences dips and valleys up and down the top line growth chart. As the top line growth chart slants upward, the overhead is an efficient production machine, but when the slope turns downward at recurrent intervals, the contractor can rarely trim overhead fast enough to maintain profitability, too often causing losses during declining markets. This unusual feature of the construction business environment gave rise to the development of my theory of “Flexible Overhead”.
If a growing enterprise cannot be sure of sustained growth well into the future but needs to add overhead to deal with current growth, it can control risk by adding a portion of overhead that can easily be removed if the market turns down. The concept of “Flexible Overhead” advises construction companies to have a reasonable portion of their indirect and direct overhead costs easily adjustable.
- The flexible overhead method controls payroll during down markets, for example, by utilizing some temporary clerical, administrative, and accounting employees. Even management people can be brought on with specific company growth and performance goals associated with their continued employment.
- The flexible contractor rents rather than owns some portion of field equipment.
- Flexible contractors protect profitability during down markets by executing short-term office leases and even temporary trailers during growth stages until a new plateau of volume can be reasonably ensured.
A great number of contractors have embraced the flexible overhead approach and most have been so impressed with it that they become reluctant to add permanent overhead. They are committed to always keeping a portion of their overhead flexible as a hedge against inevitable market slumps. The modest added cost, if any, is not unlike an insurance premium for protection from a known and measurable exposure. Companies that embrace flexible overhead manage their profit and not their volume.
Next week we’ll take a deeper dive into how to utilize flexible principles when renting, rather than owning, expensive field equipment. We’ll also tackle the best way to recruit and motivate temporary employees.
For a deeper look into the concept of ‘flexible overhead,” read more here: FLEXIBLE OVERHEAD
For a broader view into adjustable overhead costs, read more here: ORGANIZATIONAL CHANGE MANAGEMENT
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