As we approach the end of 2005 it is a good time to begin development of your budget for next year. In developing your budget, take time to challenge your operating expenses.
I recommend breaking your operating expenses into four major categories: indirect costs, sales and marketing, finance, and general and administrative expenses. Following are some tips on controlling these expenses:
Indirect construction costs. Indirect costs represent those costs related to construction that cannot be specifically identified with a particular job. Items within the indirect cost category include wages and benefits of your superintendents, estimator, designer, purchasing manager, and laborers, as well as costs of operating construction vehicles, warranties, and small tools purchases.
- Challenge the use of your laborer. Many custom builders will have a laborer on their jobs performing tasks such as cleanup. Is your laborer doing work for your sub?
- Consider implementing an inventive compensation program for your superintendent and other field personnel that is tied to productivity. Especially when times are tight you are better off having employees with low base salaries earn additional pay by achieving and exceeding goals and objectives. Make sure the incentive plan you implement is measurable and the activities measured by the plan are under the control of the employee. For example, offer an incentive payment for having no more than five items on the punch list, for finishing a job on schedule, or for staying on budget.
- Have your trade contractor handle the warranty or callback that they are responsible for or do the work yourself and back charge them for it.
- Compare the costs of providing a company vehicle versus having your employees use their own truck and giving them an auto allowance or mileage reimbursement. Be sure to factor in all costs of the vehicle including interest and depreciation as well as operating expenses.
- Make sure that your auto policy includes a rider for non-hired autos to protect you if an employee is in an accident with his own vehicle while on the job. Review your coverage with your insurance agent.
- With soaring prices at the gas pumps recently, it’s more important than ever to control authority over company gas cards and track what each of your employees spend on gas. Is it reasonable for the amount of driving they are doing on company business?
- Keep your vehicles maintained on a regular basis to decrease the likelihood of major repairs.
Sales and marketing expenses. The key to controlling marketing expenses really lies in having a detailed marketing plan and systems in place to track the results of your marketing activities. Here are some areas where you can become more cost efficient:
- Develop a system to track your leads by source and closes. Put your money into the area where you will get the biggest payback for your investment.
- Substitute some of your paid advertising with free advertising. Press releases are a perfect opportunity to get the word out about your company. Distribute regular press releases to your local media. Introduce yourself to the editor of the business or home section of your local newspaper. You want the editor to call you every time the paper runs an article about custom home building.
- Make sure that your advertising and marketing message is consistent with the image you want your company to have. If your mission statement says that your company strives to make the custom home building process a wonderful experience, make sure that your marketing materials get this message across.
- Control meals and entertainment; remember Uncle Sam only lets you take half of these costs as a deduction.
- Ask for referrals. For many custom builders the best lead source is prior customers. Don’t be afraid to ask your happy customers for referrals.
- Get the most out of your warranty calls. Often a prior customer will ask you to come back and do some warranty work even though it is not contractually required. If you decide to handle callbacks outside of warranty make sure to use it as a marketing advantage. Ask for a referral or provide a no-charge invoice letting the client know that you are doing them a favor.
Finance expenses. For management purposes I recommend that interest on construction loans be recorded as an operating expense, not charged to the job. If you take construction loans or receive draws from the customer during the project here are some tips on managing your cash flow and reducing your financing expenses:
- Take your loan draws only when you are ready to disburse the cash. If you are borrowing money to build a house, you can minimize your construction loan interest by only taking down the funds when you need them.
- Set up a systematic method of paying your bills, such as on the 10th and 25th of the month. Keep hand checks (issued outside of check-paying days) to a minimum. You may also want to consider mailing checks on a Thursday in order to take advantage of the float over the weekend.
- Explore the possibility of obtaining a line of credit even though you may not need it at this time. It is easier to start up a credit line when you really don’t need the funds. A credit line will also provide you with flexibility in taking advantage of vendor prompt-pay discounts.
- When setting up credit lines or construction loans don’t be afraid to ask for better rates. In most markets if you have a good set of financial statements, points and rates are negotiable.
General and administrative expenses. General and administrative expenses include administrative personnel compensation, office-related expenses, and any other expenses needed to run your business. Here are some tips on controlling your G & A expenses:
- Examine your equipment leases. Often the effective interest rate charged on the lease is much higher than you would pay if you financed a purchase.
- Analyze your maintenance contracts. Would it be cheaper to repair your equipment on a time and material basis? I find that service contracts on copiers usually make good sense, while maintenance on computer hardware may not be a good investment.
- Control your cellular costs. This is one area where builders constantly run over budget. Analyze your calling patterns and look for a calling plan that best matches your usage. Research the possibility of swapping your cellular phones for two-way radios.
- Review your office phone bill. In analyzing builders’ phone bills I have found many instances where the builder was being charged for lines or services he didn’t even realize that he had.
- Review your subscriptions. Are you paying for periodicals that you no longer read?
- Challenge your insurance. Does it include any unneeded coverage? Are your employees in the proper risk category for computation of your workers compensation and general liability premiums?
- How are you using your outside professionals? Do you see your CPA only at the end of the year to prepare your tax return or are you using him or her as a business advisor to help you understand your financial information?
- Control overtime costs. Would you be better off putting an employee who regularly works more than 40 hours a week on a salary instead of paying overtime? (Check with your state labor laws first.)
- Provide your employees with an accounting of the cost to the company of the benefit package you provide. In addition to showing gross pay and taxes withheld on the pay stubs, include the amount that the company paid on the employee’s behalf for items such as payroll taxes, insurance, and other benefits.
Evaluate your overhead expenses every year to make sure you are running a lean, mean custom building business.
Steve Maltzman, CPA, is president of SMA Consulting in Colton, Calif. Visit him at www.smaconsulting.net.
