Okay, you’ve taken my advice and asked your buyers for more margin. Good for you! You’re halfway to becoming more profitable. Now it’s time to tackle the second half of the equation: controlling costs so that you hang on to more of that margin. Let’s look at the three main components of direct construction costs—labor, materials, and trade contractors—to find areas where you might be able to control costs.
Labor
Some custom builders consider supervision time as a direct cost, while others (including NAHB Builder 20 Club financial reporting) include the super as part of overhead. No matter which way you work, you must have a system that allocates the superintendent’s time to a job in the same way that you assigned that time in the estimate. This is the only way you will be able to compare this cost to your estimate during construction and make adjustments if it exceeds budget.
Many custom builders believe they have better control over quality and timeliness of work by using in-house crews to perform work like framing and finish carpentry. In my work with builders who use their own crews, I find labor commonly goes over budget due to a number of factors. The first starts with the estimate. Owners who used to swing a hammer often underestimate their labor budget because they base it on the way they used to do the work, but their in-house crews aren’t as efficient. If this is the case, it’s best to discuss the estimate with field staff and do some studies on the time it takes crews to actually perform the work.
A second problem is getting reports with accurate times posted to the proper job cost categories. This problem usually occurs because the carpenter or laborer only fills out his timecard at the end of the pay period. It’s highly unlikely you can get accurate reporting of work that was done a week ago. In order to avoid this problem, establish procedures requiring that time be reported (or at least entered on the timecard) daily.
Another problem area with labor reporting is that the estimate is not developed in the same way that the accounting system posts labor costs to the job. Here’s an example: A custom builder that I recently started working with was excited to show me how most of the time his labor was coming in under budget. In reviewing a job, I noticed that he estimated 200 hours for framing at $50 per hour (the framer’s billing rate) for a total budget of $10,000. The framing on the job actually took 400 hours, but the company’s accounting system only posted the framers’ actual wages of $20 per hour, for labor costs of $8,000. Looking at the job cost report, it appeared as though this builder was doing better than planned on labor, but that was not the case. When we considered the cost of labor burden and the profit that was included in the estimated rate, which was not posted to this category, he was substantially over his estimate.
Custom builders who have been successful in controlling direct labor costs keep their foremen and crews up to date on how they are doing compared to budget and at times offer incentives for a job that comes in under budget with no sacrifice of quality. Custom builders in control of their labor costs receive timely, accurate job cost reporting of labor hours and dollars, which enables them to identify and correct labor overruns before it is too late.
Trade contractors
The biggest problem I find custom builders have with controlling trade costs is not spending the time to get bids up front. They bid the job using unit prices and wait for the trade contractor to submit an invoice, hoping the invoice comes in close to the estimate. The key to controlling trade contract costs is to have detailed scopes of work and get bids up front. Custom builders who issue formal subcontract agreements with their trades rarely see direct cost overages in this area.
Materials
Material cost control starts with the estimate. In order to have accurate material estimates it is important to take the time to develop detailed quantity take-offs. Many builders rely on their lumberyard or their framing contractor to take off framing, finish, and other materials. But often the lumberyard’s take-off won’t be as accurate as one done by someone in the builder’s company. If it is more economical for a vendor or supplier to do his take-offs, the builder must develop a system to check them for accuracy.
Many suppliers will offer prompt-payment discounts and quantity purchase rebates, while others provide money to builders for co-op advertising. One custom builder I work with gets a report from his accounting system at the end of the year listing the amount of purchases by supplier. Every January he meets with his key material suppliers to renegotiate pricing and rebate terms.
Are you in control of your job costs or do your job costs control you? By taking the time to implement some of these ideas, you will be able to gain better control and achieve greater consistency of your direct construction costs.
Steve Maltzman, CPA, is president of Steve Maltzman and Associates in Colton, Calif. Visit Steve at www.smacfo.com.
