Thomas C Schleifer, Ph.D.
I love this quote from a contractor who offered feedback on last week’s blog. “If we can’t do anything about trends, what are we supposed to do?” You have to love that. It reeks of the frustration that we contractors feel when we are asked to take a strategic approach to business. Here is a sample of the frustration I hear:
- “We know that competitive low-bidding kills profits. What would you have us do? That’s the nature of the contracting business. We don’t bid low – we don’t work. We may as well just sell the tools.”
- “Of course, owners want the lowest price. How can I convince them to pay me more than asking price?”
- “We’ve always had a skilled labor shortage. We raise pay rates, offer benefits, talk nice, let them come in from the rain, and just about hand over the keys. We still can’t get enough qualified help. We have more work than we can do. In any other industry, that would be boom times. In our industry you say we have a strategic problem.”
This is the kind of feedback I get from contractors when I talk about risky trends in construction. I’m used to it. I’ve been getting it for 30 years. The fact is that somewhere deep inside our DNA, we contractors love risk. We believe – “the greater the risk/the greater the reward” – “no risk/no reward”. That’s us.
Odds makers in Vegas know what the least profitable bet is—pick one. Even money bets = no big payoff = no fun = no action. Risk takers (all true gamblers and contractors) pass up these bets in favor of riskier bets and bigger payoffs. The same risk profile pertains in construction. Small simple jobs that we have done a million times in the past do not get our juices flowing. Ask us to bid on a multi-year, highly complex bridge across a wide canyon that pays a king’s ransom, and we’re chomping at the bit. Big risk = big action = big payoff = big fun = count me in.
Who Makes More Money?
- Who makes more money – the high-roller risk takers, or the odds-calculating book maker? The bookies, of course.
- Who makes more money – the contractor who builds the project or the developer who thinks it up and designs it? (If I have to answer this for you, you do not belong in the construction business.) Developers don’t lose money. It’s not part of their business plan. Like bookies, they assign risk–they don’t take it on.
The Truth About Risk
- Betters embrace risk. Bookies calculate risk. All I am asking us to do is to be bookies not betters.
- Every project a contractor takes on has its own peculiar risk to profitability. The “trick” is to measure it.
- It is a well-established industry fallacy that some unprofitable work is a natural part of the business.
- Calculating profitability risk begins with recognition. A decades long detailed and documented study of failed construction companies confirms that the majority of financially distressed firms had profitable work. However, they also had losing projects that consumed the profits from the successful projects. The failed companies in this author’s database had 80% or more profitable projects.
Recognizing the ubiquitous nature of risk in construction is the first step in the calculation it takes to manage risk. Managing profit risk in construction as the industry trends into even more risky waters (commodity pricing/labor shortages/supply chain snags/cost inflation) is like steering a 1,000-foot battleship rather than driving a 16-foot speedboat. In a speedboat you can avoid the rocks on the go, but in a battleship, you must navigate away from them far in advance. The best way for contractors to “do anything about risky trends is to recognize them in advance and navigate away from them. Advance recognition is everything. Be the bookie – not the better.
Self-Inflicted Profit Risk
Every job is a potential loser. In other words, there is profit risk built into every construction project. As we have said, it is simply the nature of the business. However, management decisions play an important role in either embracing too much risk or carefully avoiding self-inflicted risk. My research over almost thirty years clearly identified risk factors that can be managed if the contractor recognizes them in advance.
- SIZE – Larger (than usual) projects that fuel growth and excite the entire company are high-risk and too often lead to losses.
- UNUSUAL – Beware projects that are new to your team’s expertise. They will cost you money.
- COMPLEX – The K-I-S-S theory applies when projects are highly complex engineering feats.
- EXPERIENCE – If your team members have never successfully completed the type of project under consideration, it’s a safe bet they won’t be successful on their first try.
- LOCATION – Home field advantage mitigates the risk of loss in football and construction.
“If we can’t do anything about trends, what are we supposed to do about them?”
Recognize them in advance and navigate around them. Don’t try to dodge them at the last second. Construction companies, like battleships, don’t dodge well.
For a deeper look into Supply Chain Risks , read more here: PROJECT SELECTION
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