The law of supply and demand is a simple formula, at least on paper. When demand exceeds supply, prices rise. Custom builders who lived through the late 1990s and early 2000s will recognize that phenomenon. When the balance tips in the opposite direction, prices fall—an effect those same builders now find painfully familiar. But when demand drops, no central authority issues a new master price list to follow. The real price of a custom home is arrived at through negotiation between the builder and client. Now that consumers have the advantage, how are builders managing the process?
When asked if clients are beating her up on price, Boston-area builder Allison Perry Iantosca chuckles wearily. “The answer is yes,” she says, offering a recent meeting with two prospective clients to illustrate her point. After interviewing several builders, the couple told her that, while hers was the company with which they most wanted to work, they had chosen another. “They said, ‘We had to make a business-minded decision, based exclusively on the budget.’” And that, Iantosca says, “despite our delivering everything they wanted to hear.” Iantosca’s many repeat clients, though devoted to the company, also are watching their wallets. “They haven’t turned into different people,” she explains. “They’re saying, ‘We aren’t in a position to do what we did with you before. Can we collaborate?’”
The goal of such collaboration, of course, is to control costs. But as Iantosca points out, its real effect may be simply to spend the same money in a way that makes clients feel more in control. Her company, F.H. Perry Builder, has long served a relatively privileged market, and its contracts have always built project management and a lot of hand-holding into the overhead component. Today, she says, “People aren’t in a place to say, ‘I’m going to spend X dollars. Just make me happy.’” In response to this new cost consciousness, “We’ve had to do some restructuring of our proposals, because people want to see a particular markup.” Iantosca would prefer to bill project management and administrative services as overhead, “but they get line-itemed instead.” The dollar value of the contract may remain the same, but the costs are apportioned “in such a way that the overhead and profit percentage feels a little more palatable. We have to be careful about that, because what we sell is full-coverage project management.” But survival in the current economic environment means adapting “to match the psychology of the marketplace,” she adds.
Custom builder Jim Murphy, of Jim Murphy and Associates, knows a bit about the psychology of today’s buyers. In his Northern California market, he says, “People just don’t know what to do. They know it’s actually a pretty good time to build,” but they’re afraid to spend money. And when they do spend, they don’t want to pay retail prices. “Even people going to Wal-Mart are negotiating price,” Murphy says. “Everyone’s looking for a deal. They want quality, but they really want it cheap.” And what is true for bulk paper towels, it appears, is also true for wine-country estates. “I met with a repeat client this morning. He wanted to know if we would reduce our fee.” Murphy explained that, because the company typically works on a cost-plus-percentage basis, and because subcontractor pricing has dropped by some 20 percent, its fee actually is lower. “After an hour he was fine,” Murphy says, but the conversation isn’t one the builder would have had in flush times.
And these are anything but flush times, even for companies that serve high rollers. “Our revenue is probably down 50 percent,” Murphy reports, “which means our profit is down by about 50 percent—though we haven’t cut our payroll by 50 percent.” And while the economic panic that gripped the country last winter and spring has eased, his company still has had to change its way of doing business. “We probably hadn’t bid projects for six years,” Murphy says, “but [lately] I’ve bid a few.” That puts him in the potentially dangerous position of guaranteeing pricing for multi-year projects. Murphy is concerned that inflation might spike when the economy starts to recover, so he makes a habit of committing only to current prices. “When we do a job, we buy it out immediately,” he says. And to other builders, “My advice is, Make sure you have prices locked up before you start a project that’s going to take a year or two.”
In the meantime, though, supplier and subcontractor prices are down. “Our costs are down probably 12 percent from about a year and a half ago,” says builder Dave Reese, of Scottsdale, Ariz.-based Platinum Homes. “People are taking advantage of that.” But clients with the determination to stay in the market—and the ability to secure financing or pay cash—remain thin on the ground. In volume, Reese says, “This year we’re going to be around $12 million. Last year we were around $20 million. Next year we’ll be down again. We’re still profitable, but it’s not been painless to stay profitable.”
In fact, “of our prospect base, many have gone into a holding pattern,” he continues. They’re “seeing how the market is going, how their portfolio is doing.” But of those who are actively in the market, few are squeezing him on price. “Everybody asks” for a better deal, he says, “but in general we’re not having to go into a price negotiation. These are people who own their lots and are committed to building. There are a lot fewer of them, but they are OK with our numbers.” Passing along savings on subcontractors has helped Reese protect his own margins, and his design/build process allows him to build a relationship with a client in advance of any negotiation on the construction contract. “We work with them for six to nine months before we get to that point,” he says, “so there’s a level of trust there.”
Seattle builder Joe McKinstry is doing a lot of his current work with people who know and trust him: his former clients. But he isn’t building them custom homes. “Amazingly, we’re busy,” he says, “but it’s not new-home construction. We’ve got one custom home going right now; everything else is remodeling.” A tight loan market is one factor, he explains. “Financing has been just as god-awful out here as it’s been in the rest of the United States. We’re seeing a lot of people paying out of pocket, rather than bothering with the bank loan.” For area builders unable to downshift to remodeling, McKinstry notes, the market contraction has been painful. “A lot of these guys are laying off 50 people at a time.” The downturn has also put enormous pressure on local subcontractors. When the depth of the construction slump first became apparent, “There was an amazing reduction in prices, almost a panic,” he says. “And we’ve found that some of these companies didn’t make it. We had a couple of electrical subs go under.”
In spite of clients’ new bargaining power, though, McKinstry has managed to retain the role of advocate, rather than adversary, in contract negotiations. “We’re spending more time showing clients spreadsheets to decide where they can best spend their money,” he says. And his recommendation now must account for more than subcontractors’ price and performance. “Sometimes it’s based on our gut sense of how financially stable they are. We’re vetting not for the best price, but for a sub who will survive.”
