As discussed in my last two posts, the past few years have been a nightmare for the construction industry. Companies are going out of business left & right; and competition for what little work that is out there has been fierce. What should a construction company owner do? If the answer is to keep the doors open and run the business in the best possible way, the owner should pay attention to the reasons that contractors fail. I define failure for purposes of this discussion as going out of business. It has been my experience that contractor failure can be attributed to many factors. Today I am going to focus on Contractors not truly knowing their costs as a factor in contractor failure.
Over the past 10 years, I have given many speeches on the importance of understanding all costs associated with running a construction company. At the beginning of these speeches, I often ask the attendees if they truly know what the costs of running their company is. I am always surprised by the results of my informal survey. There is a large segment of the audience that freely admits that they do not know all the costs of running their business. They know the direct costs (materials, labor, subcontractors and equipment). What they do not fully know is their indirect (general conditions) and overhead (home office) costs. Too often companies are using outdated or incorrect numbers as it relates to general condition costs in their estimates and job cost systems.
The following reasons are why I believe that knowing your costs is one of the most things for a construction company to avoid failure:
Knowing your costs helps
As Director of Construction Industry Services at GBQ Partners LLC, I find that successful construction companies understand the importance of knowing all their costs. They understand the relationship between knowing their costs and improving profitability. Knowing all the costs in running a construction company sounds like a simple concept, but many contractors are more focused on construction than they are on understanding the impact of not knowing all their costs has on their business. It is very important that the accounting department is not the only department that knows what the actual costs are. The estimating department, project managers and the entire construction company team should understand the impact of not knowing your costs has on contractor failure. It is never too late to understand the true costs of running your construction company.
Next month we are going to take a break from “Why contractors fail” and explore how the potential new revenue recognition standard will affect the construction industry accounting.