Clock Shark
Editor’s Note: This is the second in a four-part series on how to help construction companies succeed. Here are 11 reasons why increasing a construction company’s sales often don’t translate into bigger profits.
Increasing sales volume in a construction company often can lead to failure or poor profitability. Why?
All too often, we see construction companies that grow spectacularly. Their names suddenly appear at new construction projects, their new vehicles seem to be everywhere. We hear of improved profits and new projects in the media. And then, just as suddenly, the tide seems to turn. They are in trouble – sometimes even going bankrupt.
How do these construction companies go from small company, to overnight success, to total financial disaster in such a short time?
Recently I heard of a successful family business that was growing and profitable. They went from 15 employees to 40. The sky seemed to be the limit. Then, it all went wrong. A profitable company became unprofitable, bringing the company to its knees. With hard work, guts, determination and lots of pain, the company was saved. Now that it has been scaled back to 15 employees, the company once is again making profits.
Many contractors think that growing sales automatically adds profits. Unfortunately, this isn’t always the case, and many contractors have come unstuck. Few have even gone bankrupt.
Why growing sales doesn’t automatically equal growing profits
So, why doesn’t doubling sales automatically translate into twice as much profit? Why do construction companies that appear to be profitable and growing suddenly become bankrupt?
Here are 11 reasons why increasing a construction company’s sales often don’t translate into bigger profits:
No. 1
Previously, the owner or senior managers had tight control over the day-to-day management of the company and individual projects. They make all the decisions and, in many cases, carry out a multitude of duties, including ordering materials, pricing new work, writing letters, signing payments, dealing directly with customers, etc.
As the company grows, they try to do the same duties, but because of the increased workload they cannot get to all the tasks they were doing. This overload creates bottlenecks, and even mistakes. If the company is going to grow, it needs management that can take on the additional duties, and those who were in control must delegate some of their responsibilities.
Running a big company is a lot different than running a small company. Capable managers in construction can be difficult to find and hire, leading to improper management hires or promoting team members to managers who are not capable of performing the role.
No. 2
Some people aren’t used to working in a larger team or just aren’t capable of taking on additional responsibilities or completing larger projects. Small companies often have employees who have worked for the company for many years. They almost are part of the owner’s family. The owner has accepted their little quirks and imperfections. When the company grows, they no longer report directly to the owner, but to a new manager who probably is not going to cut them the slack the owner did. They’ll take all of their complaints back to the owner, bypassing the new manager. Often, the owner over-rides the new manager and allows the old worker to continue with their special arrangements – a recipe for conflict and discontent.
To grow, a company must invest in systems that are suitable for their industry. These systems must allow for the future growth of the company and employees must have the required training to operate them.
No. 3
In the pursuit of growth, the company employs new construction workers. Usually, a small company can’t compete with bigger companies in what they can offer, both in monetary terms as well as reputation, so small companies sometimes employ people who aren’t the best or the most qualified. In the quest for growth, small companies often employ the wrong worker, one who doesn’t have the required skills and knowledge or just doesn’t fit in.
No. 4
Cash flow is one of the biggest problems stopping many companies from expanding. Ironically, more revenue doesn’t equal more cash. In fact, the opposite occurs and there is less cash. Increasing revenue means construction companies must take on more and bigger projects.
Most construction customers hold retention monies which could be as much as 10 percent. More and bigger projects means more money is withheld. In addition, these bigger projects usually are of a longer duration, which means the retention money is held for longer.
Contractors typically have to pay their employees and suppliers before they receive payment from customers. Sometimes, payments are received 30 or more days after invoicing. Again, bigger and more projects means the contractor must pay more money out before being paid themselves. All this stretches cash flow – often to a breaking point. When employees and suppliers aren’t paid, it disrupts progress on the project and damages reputation.
For a look at the first blog in Paul Netscher's "Becoming Great at Helping Your Construction Clients Succeed" series, check out "Mastering Construction Project Cost Reports – The Good, the Bad and the Ugly."
No. 5
Smaller companies frequently don’t have systems in place. I’m referring to systems like accounting, pricing, timekeeping, safety, quality, environmental, invoicing and even filing. I’m sure we have encountered those mom and pop businesses where everything still is done by paper (or worse – by telephone call or text message). Desks are a heap of cluttered papers.
Well, you can’t operate any business like that, especially a large business. Even those who are invested in computers often still use Excel spreadsheets they set up themselves. There are smarter ways of doing things. There are smarter systems and software apps to help automate things.
To grow, a company must invest in systems that are suitable for their industry. These systems must allow for the future growth of the company and employees must have the required training to operate them.
No. 6
Growing means the company has to work for new customers. Often, the company has previously worked with the same customer for years. Business may have been done on a handshake. Your word was your bond. Everyone trusted everyone else. Paperwork was non -existent. Unfortunately, most customers aren’t like that, and the company must change the way it operates. Working for the wrong customer or not having everything in writing could mean the contractor isn’t paid. Bad debts inevitably destroy companies.
No. 7
To grow and then maintain growth, companies must take on projects with new clients, in different locations and, sometimes in a different field they are most experienced. Often, this entails taking on more risk. Unfortunately, smaller contractors don’t always appreciate these additional risks so don’t allow for them. Then, when things go wrong, the company is too small, or its capacity already is under pressure, so it cannot withstand the shocks that a bigger and stronger company could.
Construction companies need to grow. Doing so provides opportunities for employees and owners alike.
No. 8
Growing the company usually means increased overhead. The company often has to take on new people, which include estimators, accountants, payroll administrators, quality managers and HR people. These people need office space so the company moves into a bigger office, often bigger and flashier than needed.
With new people comes computers, software licenses, bigger server, email accounts, telephones, etc. Some businesses become overconfident and splash out purchasing new construction equipment (some equipment is second hand, which can bring its own set of maintenance and downtime problems). The equipment sometimes is unsuited to the long-term needs of the company and is mismatched, with no common manufacturer or spare parts.
Maintenance and repairs can become a nightmare and a money sink. Of course, this equipment must be examined, mechanics must be employed, workshops set-up and service vehicles procured.
No. 9
The growth is done at any cost. The construction business is a cyclical one, as I will discuss in the third part of my series, "Managing a Construction Company through the Good and the Bad Times." Some companies become greedy when there are lots of work opportunities, and they take on too many projects, employ more people and purchase new equipment.
Unfortunately, the good times always end and the number of projects shrinks. In the lean times, companies usually have to downsize. And downsizing costs money. The bigger the growth in the good years, the bigger the downsizing. Companies that haven’t built up a reserve in the good years and made a sustained growth will end up in difficulties. Growth must be controlled.
No. 10
Growth is done by purchasing other companies. Purchasing new companies can be a risky way of achieving growth. There always are additional costs of merging new companies. There also is the risk of finding skeletons in the closet later. A proper due diligence of the new company’s operations is required to ensure there are no hidden liabilities, the accounts correctly are stated, the equipment and employees will add the expected value, and the current projects won’t turn bad before they are completed.
No. 11
Growth often is driven by shareholders and accountants. Companies that are growing are rewarded by shareholders. Unfortunately, some directors reward managers with bonuses that depend on how much they grow the company. This can lead to reckless decisions which are often focused on top-line growth. Little thought is given to the long term (or even medium term) consequences.
I once worked for a company that recklessly purchased other companies. Unfortunately, these companies brought with them large risky projects which were underbid. In the short term, managers were rewarded with large bonuses and the original shareholders sold their shares at enormous profits.
Eventually, the projects that came with the new company ran-up huge losses, and the company collapsed, leaving employees, subcontractors, suppliers and the new shareholders with nothing.
Controlled Growth the Key
Growth often is fueled by over-ambition. When the construction cycle turns positive, the sky seems to be the limit, and companies take on every project within reach, with little thought of how it will resource and manage these projects. Even less thought is given to how the company will weather the construction downturn that inevitably will follow.
Construction companies need to grow. Doing so provides opportunities for employees and owners alike. If properly done, it should provide profits and benefits for everyone. Controlled growth can provide more security. The company will work for more clients, operate in different fields and locations, which should enable the company to better survive the construction cycles.
Growing a construction company can be exciting and stimulating. But growth should never be done just for the sake of growing. It must be planned and controlled, taking into consideration the company’s strengths, weaknesses and abilities, as well as external factors such as the economic cycle, competitors, opportunities and customer demands and expectations.
About the Author
ClockShark is a time tracking app for construction and field service companies that integrates with QBO and QBDT. ClockShark blogger Paul Netscher is the author of "Successful Construction Project Management: The Practical Guide" and "Building a Successful Construction Company: The Practical Guide." Both books are available in paperback and e-book from Amazon and other retail outlets. To find out more about these books, visit www.pn-projectmanagement.com.
Suggested Reading
For a look at the first blog in Paul Netscher's "Becoming Great at Helping Your Construction Clients Succeed," check out "Mastering Construction Project Cost Reports – The Good, the Bad and the Ugly."