You may have seen the news recently, yet another South Australian builder has gone into liquidation making them the ninth builder in seven months to close their doors. Obviously this may ring some alarm bells and not leave you with much confidence in the building industry, especially if you’re planning on building a custom home any time soon.
Whilst we don’t want to celebrate these closures, we do want to take this opportunity to explain a few things…
IT’S NOT AS SIMPLE AS MATERIALS + LABOUR = PROFIT.
I mean, how hard can it be to quote a job? You just charge out the materials & labour cost with 10% on top for profit and Bob’s your uncle! No. It’s not that simple.
There are many things a business should know and do but amongst all of them, the most important one is knowing your numbers. If your profit margin on each job isn’t covering your overhead costs, then how else are you supposed to make money? As a consumer, it might be a bit confronting to find out that a builder’s charge out rate could be anywhere between $80-$120 per hour. “But surely the workers don’t get paid that much an hour? So why am I paying so much?” You might ask. Well, you’re right. The average hourly pay for a Carpenter in Australia is AU$30.23 but you’re not just covering the cost of wages.
We’ll try and break this down so that it’s 1) easy to understand and 2) not boring. Every business should have a charge-out rate. A charge-out rate is typically used to allocate the costs of a resource that is shared among multiple users. In the construction industry, it is often used to calculate the fees for a labour resource, taking into account unproductive and non-chargeable hours.
BUT YOU SAID WE’RE NOT JUST COVERING THE COST OF THEIR WAGE?
And that’s right. You’re not. A full-time carpenter doesn’t just cost his employer his pay rate, his taxes and benefits (holiday pay, sick leave and superannuation) need to be covered also.
SO WHAT OTHER COSTS ARE WE COVERING?
Every business has what we call ‘fixed costs’. These are costs that are incurred regardless of how much work you have on. Things such as accounting fees, insurances, licensing fees and motor vehicle loans/running costs. Like us, some businesses would have membership fees to associations like HIA (Housing Industry Association), or advertising and marketing fees. Essentially, these are called overheads.
THIS IS WHY CASH FLOW IS SO IMPORTANT…
What is cash flow? The short answer is cash flow is money coming in versus money going out. Think of it like a water tank: water comes in at the top and drains out the bottom. So to keep your ‘tank’ nice and full, you just need to make sure there’s more coming in than going out. Simple? Not really…
First of all, cash flow is the lifeblood of any business. Cash inflow will come from sources like payments from customers, monetary infusion from investors or interest on savings or investments. It’s so important because it becomes payment for things that keep your business running, like: materials for an upcoming job, employees wages and general operating expenses.
WHAT CAN AFFECT CASH FLOW?
There are many things that can affect cash flow, things such as not having a cash reserve for tax bills or during the leaner months can cause havoc in a small business, even not invoicing promptly and following up on overdue invoices can have a profound effect on whether a businesses cash flow is positive or negative. This is why you’ll find many reputable builders 1) charging for quotes, 2) requiring a deposit and 3) invoicing for progress claims. These are all things that help improve a businesses cash flow but there are a few things we want to address that have a major impact on a businesses ability to stay afloat.
Running a business isn’t easy, and one of the hardest parts is knowing when you can and can’t spend money. Anyone in business can be fooled into thinking that they’re making a profit on each job, cash flow is good and they start to notice a build up of money in the account. So they think, “Well, I don’t really need a new car, but I love the look of the new Ford Ranger, and we’ve got the money, so why not?” And this is where they can come unstuck. If they don’t take into account their overhead costs and make sure they’re covering them in their charge-out rate, what may appear to look like positive cash flow can easily turn into insolvency when they’re hit with end of month accounts, yearly insurance and licensing fees and their employees superannuation bill.
This is a trend we’re starting to see more of nowadays. The market has always been competitive, but not like this. We’re seeing more and more businesses underquoting just to win the work. But when they dip below their profit margin time and time again, they start using their own money to maintain the company and do the work. At the end of the day, builders aren’t charging enough.
Now, we’re not in the business (excuse the pun!) of blaming but this is a two way street. As a consumer, we’re not implying that you have a responsibility to make sure that builders are charging enough but you do have the responsibility of realising that if you’ve got three quotes for your project and two of them are around $200,000 and the third is around $100,000, then maybe the cheaper quote isn’t necessarily the best way to go. We get it though, sometimes, the cheapest price is the most appealing but what you think you need and what you actually need are two different things.
You should want your builder to make money. If your builder is making money, he can deliver the best possible service, provide a quality final product and he can continue to grow his company. If you’re searching for the cheapest price, and the builder you choose has under quoted, what do you think is going to happen when he starts to run out of money before completing your job? He’s going to start cutting corners and your project, let alone your stress levels and bank account, will suffer.
Progress payments go hand in hand with achieving better cash flow. A builder will invoice for multiple progress claims over the course of a large project in direct relation to how much work has been completed. The advantages to using progress payments is that it reduces the need for working capital because the builder does not need to come up with a large sum of money up front to pay for their clients project. They also do not need to struggle to make a big payment at the end of the project. Instead, they can space the payments out as the work is completed. It allows the builder to be more flexible with the working capital they do have because they don’t need to sink it all in one place.
A benefit for you, as a consumer, in complying with progress payments is that it encourages builders to stick to work schedules and gives you an opportunity to gain control of the project if it’s not progressing as planned or there are concerns about quality.
SO WHY ARE SO MANY SOUTH AUSTRALIAN BUSINESSES GOING UNDER?
We can only answer this objectively but essentially, it’s a mixture of many things:
- The market is becoming too competitive, every builder is quoting and trying to win every job when they should be working on the areas they are most efficient, so they can be competitive in a healthy manner and still be profitable.
- Builders are obliging to the consumers demands of the cheapest price when they shouldn’t be. There will always be a game to play but it’s gone too far.
- Builders aren’t charging enough, they’re not focusing on their numbers and are in fact, building up a hidden liability debt that isn’t being covered by the consumer.
- Builders are underquoting and overspending.
As we said, it’s a myriad of things… This is why, at ZJ Building, we have a set process in our quoting and payment systems. We customise deposits and payment schedules based on suitability and we analyse each enquiry with attention to detail to discover the appropriateness of the project to our company’s abilities. We ask ourselves, “Is this a job we can deliver the best value for or can they go somewhere else?”, and we act accordingly. We, of course, will compromise to the best we can but we know our numbers and we know where we can and can’t reduce our price.
A quote from multiple businesses for the same project will never be identical because each businesses overheads are different. So, when you’re getting multiple quotes for your project, always compare what you’re receiving with what you’re paying because when all is said and done, the cheapest price may also be the riskiest.