Helping Builders Since 1952
Explains what it really takes to survive hard times in the construction industry and how to take full advantage of the profit cycle in good economic times. Whether you're just getting started or have been bidding jobs and meeting payroll for years, this practical manual will suggest unique ways to overcome your most persistent problems getting through a debt crisis: what to do when bills can't be paid, finding money and buying time, conserving income, trans ferring debt, handling creditors, choosing assets to liquidate, setting payment priorities, cash float techniques, alternatives to bankruptcy, dealing with lawsuits, judgments and liens and laying the foundation for recovery.
You won't find conventional advice in this book. Instead, expect to learn what's really needed to survive, stabilize and thrive as a construction contractor.
Explains what it really takes to survive hard times in the construction industry and how to take full advantage of the profit cycle in good economic times.
Whether you're just getting started or have been bidding jobs and meeting payroll for years, this practical manual will suggest unique ways to overcome your most persistent problems getting through a debt crisis: what to do when bills can't be paid, finding money and buying time, conserving income, trans ferring debt, handling creditors, choosing assets to liquidate, setting payment priorities, cash float techniques, alternatives to bankruptcy, dealing with lawsuits, judgments and liens and laying the foundation for recovery.
Then there's building sales and profits using other people's cash, becoming a great salesman,setting goals, using limited partnerships, building financial reserves, accurate estimating, calculating overhead, contingency and profit margins. Completely updated, including major new sections on the use of personal computers for bookkeeping, estimating and scheduling, and Web addresses that have additional useful information.
You won't find conventional advice in this book. Instead, expect to learn what's really needed to survive, stabilize and thrive as a construction contractor.
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Part One - Surviving, 5
Chapter 1 - Which Way Is Up?, 7
How bad is it - really?, 8
Transferring debt, 11
You can't make it up on volume,12
Finding a group and regrouping, 13
How long in? How long out?, 15
Being threatened with lawsuits, 17
Debt organization and priorities, 18
Too little debt, 22
Collection agencies and your credit rating, 23
Trading services and working off debts, 26
Chapter 2 - Finding Money and Buying Time, 29
Finding money, 29
Buying time, 38
Chapter 3 - Got That Sinking Feeling?, 55
Bankruptcy and legal process, 55
Alternatives to filing for bankruptcy, 66
Mechanic's, contractor's and construction liens, 78
Chapter 4 - One Problem at a Time, 83
Your home, your home phone and your privacy, 83
Time off, 85
Part Two - Stabilizing, 89
Chapter 5 - Bring Some Sanity to Your Business, 91
Understanding what business you're in, 92
The basics of construction contracting, 93
A word about profits, 96
Coping with recessions, 97
Cash flow, conserving income and avoiding debt, 107
Chapter 6 - Who's Minding the Store?, 111
Accounting using a computer, 111
People aspects of the accounting system, 129
Chapter 7 - Who, Me Work?, 149
Sole proprietor or partnership, 150
Job supervision and your foreman, 152
Expecting the unexpected, 155
Losing time, 161
Risk management, 163
The labor relations board, 165
Chapter 8 - The Equipment Payment's Past Due, 169
Capital-intensive contractors, 170
Paper contractors, 172
Doing your own work, 173
Equipment maintenance, 174
How many jobs in how many hours?, 175
Growing the business, 178
Profits as a measure of success, 179
Your working radius, 182
Chapter 9 - So You Can't Find a Job?, 185
Maybe you're a lousy salesman, 185
Repeat business, 187
Promotion and public relations, 190
Customer leads, 194
Credit checks, 202
Where's the money coming from?, 203
Part Three - Thriving 207
Chapter 10 - Your Purpose and Goals, 209
Goal setting, 209
A realistic look at retirement, 215
Your work and your company,217
The family-run company, 220
Chapter 11 - Go Where the Money Is, 223
What goes up may not come down, 224
Their buck vs. your buck, 228
The limited partnership, 230
Cash is king, 235
Staying power and reserves, 236
Chapter 12 - Over-Design, Under-Design and No Design, 239
Architects and engineers, 239
The design process, 240
Zoning and permits, 241
Planning and building departments, 244
Plans and specifications, 246
Building codes, 248
Chapter 13 - Second, for the Third Time, 253
Are you sure you're in the right business?, 253
If bid you must .. , 255
Negotiated fees and design-build contracts, 259
Accurate estimating, 261
Financing and carrying your client, 274
Chapter 14 - Investing in Inflation, 283
Buying and investing in property, 284
Trading property, 284
Investing in your projects, 289
In summary, 294
Appendix 1 - Blank Forms, 299
Appendix 2 - Creating an Income versus Expense Graph, 315
Appendix 3 - Minutes-to-Hundredths-of-an-Hour Conversion Chart, 325
Basics of Construction Contracting
Which Way is Up?
Finding Money and Finding Time
Got That Sinking Feeling?
Who's Minding the Store?
Who, Me Work?
The Equipment Payment's Past Due
One Problem at a Time
The Basics of Construction Contracting
This book is written for general contractors, builders and subcontractors, the self-employed entrepreneurs who handle most of the construction work in this country. Whether you're just getting started in construction or have been bidding jobs and meeting a payroll for years, you should find plenty of useful information between the covers of this book. Whether construction is your full-time occupation or your "other job" while you draw a salary on someone else's payroll, this book should help you make a better living in your chosen profession.
Construction contracting may be the quickest legal way I know to make money. Many contractors have doubled and redoubled their assets in a short period of time. It takes skill, luck, hard work and long hours, but the rewards are consistent with the risk and effort. Where else can you start out with a few tools, a truck and no special skills and build a multi-million dollar business in three or four years? It's been done many times in construction.
Even if you don't make a mint, construction contracting is satisfying work. You work outside, have only yourself for a boss, and can take pride in providing durable and attractive shelter, one of the most basic human needs.
But construction contracting is also complex and demanding work. Even a simple project requires coordination of many tradesmen and many different types of materials. Running that project (or a construction company) is like driving a team of spirited horses that wants to go off in all directions at once. Anyone successful at construction contracting is likely to be a jack-of-all-trades and the master of most, sort of a man for all seasons. A builder has to be a salesman, accountant, collection agent, labor negotiator, planner, plumber, laborer, estimator, marriage counselor and carpenter all rolled into one. If you come home tired at night, it's no wonder. Just one or two of these jobs would be enough for most people.
This Book Can Help
Because you're taking the trouble to read these pages, it's safe to assume that you have the problems that plague many contractors: You're not making enough money as a builder and you're frequently knee-deep in unpaid bills. Taking the time to read this book shows that you're one step ahead of the competition. You recognize the problem and are looking for a solution. That's an important step in the right direction.
This book is intended to help you sort out the complexity of running a contracting company. It's a guide, a road map to operating a successful construction business. It will suggest ways to get out of trouble, if that's where you are now, and explain how to build the more profitable construction company that you would like to have.
The first part of this book explains how to hang in there with what you've got. Survival comes first.
There's no point discussing profits if your carpenters didn't get paid last week.
If your business is already doing reasonably well but isn't making enough money, concentrate on the second part of this book - thriving in the construction industry.
But in either case, I recommend that you read this book from cover to cover. It should help you maintain composure while making plans for the business you want to have.
Every bit of information in this book comes from my experience and personal observation. I know first-hand that the methods here work. But only you can judge if they will work for you.
The Author's Perspective
Before going any further, I'll describe the way I do business so you can understand my viewpoint. I'm a self-employed architect-construction manager by profession. In other words, I make my living designing and constructing buildings, just like you do. I've found a niche that's both profitable and comfortable for me.
I should point out, however, that finding that niche wasn't an easy or cheap discovery. As a builder, I've had several people working for me at some times, and at other times it's been just yours truly. Sometimes I made money, but many times I didn't. It seemed that every time I got rolling along, a recession came and took me with it. So I recession-proofed myself. I took a part-time teaching position. The money's not great, but it's steady and I make a lot of contacts. Next, I got rid of my staff, and did everything myself. Then I quit bidding, because there's too big a crowd at the bid openings. Finally I began to build one of two ways: I build what I design on contract for the owner with no competition, or I build projects that are so exotic there's no competition - everyone else is afraid of losing his shirt. I do these jobs also on a contract basis.
I never bid anything or compete for a job. I always know what I'm going to make going into a deal. All my help, except my attorney and accountant, are subcontractors. I don't carry anybody, ever. I always make money-more of it than I ever did as the typical, bid-on-everything contractor.
I'm not suggesting that my way of making a living is the only way. It's fine for me, but others may do as well or better taking the jobs I reject. The point I want to make is this: There are more ways to make money in the construction business than you can possibly imagine. And there are probably just as many ways to get wiped out. Competitive bidding (against cut-throat competition) isn't the only way to get work. It probably isn't even the best way.
Many construction contractors and subcontractors have found a profitable niche like I have and do very nicely with it year after year. Maybe you can too. That you're reading this book tells me that you want to try.
Should You be a Construction Contractor?
Before going any further, ask yourself one critical question, "Should I be in the contracting business?" Does that sound like a dumb question? Maybe it is. But let's get the answer out in the open. How did you get into this business? Did you drift into it because nothing else interested you? Did you back into it because your father or uncle was a builder and you spent summers working for him? Or did you become a contractor after some thought and planning?
If you didn't give it any thought before, maybe now's a good time. Construction contracting isn't for everyone. The best framer or finish carpenter in the world may make a very poor construction contractor. There's more to construction contracting than just construction skill. If you can't estimate costs, sell the job, get a loan, maintain the books, collect bills, and keep your clients, employees and building inspector happy, your carpentry skill won't make you a carpentry contractor. Maybe you would be better off working full time as a carpenter and leaving the office work to others.
Ask yourself some more questions. Do you like accounting? Can you at least tolerate it? Everyone who runs a business, creates and uses financial records. If you hate paperwork, you'll never like contracting.
Can you work harmoniously with clients, associates, subcontractors and employees? Construction is a "People-oriented" business. If dealing with others isn't your strong point, maybe contracting isn't your best opportunity. You'll probably be happier doing something else.
Contractors also need a high tolerance to stress and a certain air of confidence and authority. I think of my job as being like the lion tamer at the circus. I work with some pretty independent and aggressive characters in situations where there's a substantial risk of loss. A mistake in a careless moment can lead to disaster. But if I've rehearsed my act carefully, there won't be too many surprises. And I've noticed that giving an impression of confidence and authority promotes cooperation and compliance in those I work with. If you don't thrive on stress and don't convey an appearance of confidence and authority, maybe contracting isn't for you.
As a contractor you can't take the demands of others too seriously. There are few real life-and death situations in a construction business. No one is going to shoot you or lock you up for being in debt or losing money. In fact, you can beat or delay any creditor except the tax collector. Losing your nerve will just encourage those who want to take advantage of your misfortune. There's no need to panic. . . ever.
It may seem irrelevant to worry about attitude when you're fighting for your economic life or struggling for more profits. But I can tell you from my experience that unless you believe without question that you'll succeed no matter what, you'll never get very far in the building business.
Your attitude influences how your clients view and judge you. If you come across as a negative, overburdened, marginally successful builder, you'll get only the left-overs. . . the work other contractors have turned down.
Property owners who have the money and borrowing capacity to put up a building or develop a plot of ground usually have something in common. I've found that they're successful, productive, practical people with a positive outlook on life.
They like to work with other successful, productive, practical people with a similar attitude. They want to deal with contractors they trust, understand and like. And they're reluctant to work with those who seem to have different values and standards.
But don't misunderstand what I'm saying. I didn't suggest that you have to be a millionaire or have the look of a millionaire to do construction work for successful people. Many characteristics can offset a lack of financial resources. And prime among these are two that cost nothing, a positive attitude and self-confidence.
Accept the fact that your attitude is an important part of your business. It's the first thing your client sees and the last thing he'll forget long after his project is finished and sold. Let a positive attitude be a major asset of your company, even if the financial assets are a little skimpy.
Good communication habits are essential for every contractor. Some contractors ignore their clients, creditors and problems whenever possible. That's very poor policy. Problems don't go away by themselves. They require attention, consideration, and resolution. Above all, they require communication.
If you ignore your clients' phone calls and correspondence, you leave them no alternative but to come find you. Ignoring a client's call creates a problem in itself, even if there wasn't really any problem there before. You may think you're buying time by not returning a call. But the right attitude and good communication can win months or even years of delay. . . especially from creditors. So don't ignore your clients. Talk to them. You may have many unpleasant discussions, and you'll need a thick skin, but the alternative may be even more unpleasant, time-consuming and costly.
A Word About Profits
Understand this: Volume alone doesn't produce profits. At least 10% of all construction work is a potential money loser. When you find that 10%, turn it down and walk away. Low-profit work wears you down without producing an acceptable return.
You always work three times for a profit: once to find the job, once to do the job, and once to collect what you've earned. Just because you've performed the first two parts, don't assume that the third follows automatically. It doesn't. You have to protect, nurture, and collect profits before they reach your checking account. Otherwise you'll never take them home.
Profit-making is like popping corn. For best results, don't take your eye off the pot. Keep it in motion from the time the fat hits the fire until the last kernel bursts. Keep your job moving the same way. Watch your profit constantly. Nurture and protect that profit until work is complete. Profit is the only reason you have for doing the job. Don't forget that.
Don't take jobs for owners who want you to work for nothing. Tell your clients right up front what it costs to build and what your fees are. Be friendly, honest and firm on the issue of profit.
Some will respect you for it. Others may be offended. You can survive and even thrive without them.
Let them go.
Building a reputation as the lowest-priced contractor in town will only wear you out physically and emotionally. Pick and choose your projects. Do quality work for quality owners that want to rely on a reputable, competitive and competent builder.
Preparing a Financial Statement
Accounting and paperwork are as much a part of a contractor's job as blueprints and estimating. And the most basic accounting document is the financial statement. You need a new one every time you apply for a loan or get a performance bond.
A financial statement lists what's owned and what's owed. It shows at a glance the net worth of the subject business or individual. It's like a financial x-ray. In the hands of someone who can interpret that picture, it speaks volumes about the financial health of that person or business.
Most going businesses prepare a current financial statement every month. If that's too much trouble, every three months will do. But going without a financial statement for more than three months is like setting out on a cross-country trip without a map.
If you've never prepared a financial statement, stop right now and do it. Figure 1-1 shows a sample financial statement. There's no point in reading any further until you know your assets, liabilities and net worth.
Here's how to make up a financial statement. Use a blank piece of lined 8-1/2 by 11 paper. Write your name or your company name at the top center of the paper and put the date right below the name. On the top left side of the page, write the word Assets. Under this heading make a list, by type, of all the money and things of value you or your business owns. Start with current assets: cash in your checking or savings account, receivables, inventory, stock or bonds, the cash value of insurance, and any advance payments made before receiving goods or services. Opposite each category write the realistic present value of that current asset.
Below the current assets, list fixed assets by category and value. Land, equipment, furnishings, vehicles and buildings are fixed assets. At the bottom of this list write Total Assets and the total value of all assets listed.
Now on the top right side of the sheet, list your liabilities. Then list by
category everything you or your business owes: mortgages, charge accounts, loan
balances, anything received but not yet paid for, money owed to subcontractors,
invoices still unpaid and the like. Below all the liabilities write Total
Liabilities and total the figures in the liabilities section.
On the last line at the bottom of the page, write Net Worth. That's the total of all assets less all liabilities. It shows what you're worth. If the net worth is negative, you're what's known as "being in the hole." It's not a great position to be in. But knowing your net worth is an advantage, even if it's negative.
Coping with Recessions
Every construction contractor should understand that there's a cycle of construction activity. This cycle rewards those that can anticipate it and punishes those that can't. The construction cycle can make or break you. And for many it does both.
At the beginning of every upswing in construction activity a fresh new crop of eager young builders surge into the industry. They develop a house or two, sell them off at a nice profit, and then tackle larger projects, making more money and laying bigger plans. After three or four very profitable years, some of these builders are running big construction companies with millions of dollars in assets and several major projects under way. They probably attribute their success to hard work, skill and daring. They're right. But they were also in the right business at the right time. And good times don't last forever.
When recession comes, as surely it will, hard work, skill and daring count for little. The bank loans, heavy investment in materials, equipment, staff, overhead and projects that can't be sold become a crushing burden. Many builders fail and leave the business. Others can salvage enough to remain active, or at least stay open for business until the next upswing comes.
Economic recessions are here to stay. There's no reason to suspect that our economy will be better managed or that recessions will be less severe in the future than they have in the past. Accept the ups and downs in construction activity as an opportunity to improve your competitive position against other contractors. Plan to survive when others can't and thrive when others can only recover.
Exactly what is a recession? From a builder's standpoint, we're in a recession when construction activity is down. That's usually because owners can't borrow money or would have to pay interest rates that make borrowing unattractive. Nearly all construction work is done on borrowed money.
When lenders stop lending, builders stop building. That's a recession.
To survive more than one cycle in construction, you have to anticipate the construction cycle. It isn't hard. Like the seasons, they occur at regular intervals. Anything that's predictable can be planned for. And planning is the only way to make your company recession-proof.
Later in this chapter I'll explain how planning can help you use the construction cycle to your advantage.
Plotting the Construction Cycle
You can't anticipate the construction cycle until you know how the cycle works. So let's look a little more carefully at the construction cycle (or business cycle as it's sometimes called). Figure 1-2 shows the normal business cycle of rising and falling business activity. We've smoothed out the cycle a little to help you recognize the various phases of the cycle.
There's a definite trend during each part of the cycle. And what's going to happen next is quite predictable. Timing is the only major unknown. In spite of the rough shape of the actual cycle, the overall shape of the curve is usually a smooth continuous slope from a peak of inflation to the bottom of the recession. Since the curve is smooth and predictable, you'll have little trouble planning major business decisions around it.
Don't worry about small fluctuations in the curve. It's only important that you identify the larger, slower, major changes in direction. See Figure 1-3.
Identify first whether we're in the recessionary or inflationary phase of the cycle. The small monthly fluctuations matter only to stock traders and commodity speculators. As a builder you're in a much longer-haul situation. You can't do much building in less than six months, so shorter-term fluctuations don't really affect you.
The overall trend in the economic cycle is generally upward or inflationary. For example, the lowest price of a home during the next recession will be higher than the lowest price of a similar home in the last recession. To get a better idea of what I mean, glance at Figure 1-4.
In Figure 1-4, you can see that the price of a home at the bottom of the recession in 1980 was $95,000. The price for a similar house at the bottom of the recession in 1974 was only $50,000. That's $45,000 less than 1980, representing a $45,000 inflation in values, even though it's a recession.
Notice that both the years 1974 and 1980 were deep recession years. Many land prices hit low points during those years. Yet we've noted a $45,000 increase in prices between those recessions.
The point of this explanation is to show that prices tend to increase even from recession to recession. Even if prices collapse completely in the next recession, count on them to rebound once more to new highs within a few years. That's just the nature of the business cycle. Knowing that should give you courage to hang on to assets when others are liquidating.
The real danger for builders and developers is that they'll be forced to liquidate at the bottom before the economy has recovered. Contractors that don't have the cash to make interest payments when due have to sacrifice assets to satisfy creditors or face foreclosure. A forced sale at the bottom of a recession is never good for the seller. And most important, it strips the contractor of the assets most likely to increase in value during the next upswing in the cycle. Have enough reserves to hold out during a recession and you'll never be forced to liquidate at fire sale prices.
Recessions - the Big Picture
Any discussion of recessions would be incomplete without a look at how often they happen. Let's look at recessions over a broader period of time to see if we can learn more than by examining a single cycle.
Look at Figure 1-5. Since World War II we've seen the inflation rate creep from an average of about 1 to 3% to a high of about 18%. Is inflation going to die any time soon? Not very likely. But don't let that bother you. From a historical stand-point, inflation is predictable. You can plan on it and use it to your advantage.
Notice that the inflation rate has tended to rise higher in each successive business cycle. That shouldn't be a surprise. What is surprising is the frequency and the steep slope during recent cycles. Figure 1-5 shows a distinct upward slope to the cycle over the years. Notice also that the peaks of the cycles are moving closer together. That's disturbing. Is it possible that the cycles could come so close together that you won't be able to tell the good times from the bad? As of this writing, it's too soon to tell. By the mid-1990's we should know for sure.
For now, just be aware that inflation drives prices upward in fits and starts, that the elapsed time between cycles seems to be growing shorter and that lately the cycles have become more exaggerated with each swing.
Planning for the Economic Cycle
So much for the way the cycle works. Now let's take a look at the investment and business decision you should be making in each phase of the cycle.
How do you plan for this cycle? That's easy. Keep your thinking one-half step ahead of the construction cycle. Start thinking about the next recession when construction activity is intense. Then turn your attention to the next boom when recession is driving panic-stricken contractors to the wall.
When every carpenter who can drive a straight nail is working full time, begin thinking about what you'll do when the work in your shop is less than one-half present volume. How will you cut overhead by at least 50%? What projects will you close out as construction activity declines? Who are you going to layoff? What salary adjustment will you make? Can you shift emphasis to remodeling, additions or government jobs if more work is available there? Maybe you can get work on a "cost plus" basis at a slim but guaranteed profit while others battle it out for the lowest bid. Start building a financial cushion of spare cash. . . survival money to use when every dollar counts. For some builders it would be better to close up shop entirely for the duration of a recession. That's a real option. Leave it open. It may be better to close out your projects, pay your bills, furlough your employees and go back to teaching school or working for your Uncle Fred for a while.
Most of all, plan to reduce the risk of failure by reducing the money you owe. Only debtors end up in bankruptcy court. If you don't owe any money, you'll never go belly up. Debt-free builders don't have to take zero-profit work just to stay busy. They can put the business in mothballs or continue at very low levels of activity until better times return.
And better times will return. You know that, even when others have lost hope. Start planning your revival at the depths of the recession. When others are being forced out of the business, look for land or other opportunities that don't seem attractive at the time but have potential if buyers come back into the market. Start working with investors or lenders who can finance your growth during the boom. Decide what types of work you want to handle during the coming surge and prepare yourself and your organization for that day. Assemble your team and your resources for the next boom. Commit yourself and your finances as heavily as you dare to one key project or one opportunity that you feel will be most likely to succeed when construction revives. That's an excellent prescription for building a thriving business in the next revival.
Remember this throughout the construction cycle: Things are never quite as good and never nearly as bad as most people perceive them to be. Don't let the emotions of others keep you from using the construction cycle to good advantage.
For our purposes, we'll divide the cycle into three phases. See Figure 1-6. The top third we'll call the inflationary period. The bottom third is the recessionary period. The remaining or middle portion we'll call the inconclusive period.
There's a saying among developers that goes like this: "When people figure out what you're doing, it's time to switch to what they're doing." There's a simple truth here. Smart money moves in and out of the real estate and building markets as the cycle moves from inflation to recession and as the buying public reacts to inflation and recession.
The principle is so simple that most people miss it completely. If you plan to do next year what was generally accepted as good policy for last year, you're probably planning to do the wrong thing. There's a good time to invest and a good time to sell. If you buy when buying is considered wise by the general public, what you do is probably foolish.
And, strange as it may seem, there's a time to get out of the market altogether. It's not when everyone else is selling. When that happens, the really smart money has already sold out. The time to liquidate, or at least reduce your investment in real assets, is while there are still enthusiastic buyers left in the market.
When the recession is nearing bottom, when projects are being liquidated to satisfy creditors, smart money is picking up the choice assets that will be the first to recover when the economy revives, as it inevitably will.
The remaining part of the cycle, the middle third, is what we called the inconclusive period. Neither inflation nor recession is predominant. There is no clear trend or the trend may be in the process of reversing.
This inconclusive period is a good time to take stock of your position. It's a time to look seriously at what you've accumulated and weigh your options. It's a time of transition. It's time to restructure your thinking and reposition your assets from defensive to offensive, or vice versa. Few contractors recognize the need to make new business changes during the inconclusive period. Others see the need for change coming but don't make enough changes in time.
As I suggested earlier, the smart money moves in and out of the real estate and building markets. Think back to 1973. We were in a red-hot real estate market. Builders could do no wrong. What we in construction didn't realize was that we were cresting at the top of that particular inflationary cycle. By year end, Watergate had forced President Nixon to resign, credit disappeared, construction work stopped and the economy nosed over into a long recessionary slide that few were prepared for.
Look again at Figure 1-6. Notice that the economy had already begun to lose its momentum by the middle of 1973. This was a warning of what was to happen in the next few months. It was a sign to builders to conserve cash, postpone investment in additional equipment and real estate and to reduce staff until the next cycle began.
But few did. I watched builders, plumbers, suppliers and owners alike pushed to the brink of financial ruin. I laid off my staff of eight, could find very little work for months, and ran up $100,000 in debts. At the bottom, I had very little hope of working out from under these debts. No one knew how long the recession would last. Luckily, I was able to stick it out. I had to. There was no other way for me to payoff my debts.
Understand that timing is critical. No contractor can run his business as though the inflationary cycle will last forever. It never does. When the economy starts to crash, just get out of the way. You don't have to crash with it. Then lay your plans. Be ready to start new ventures when you're at the bottom of the recession, not the top. From there the prospects can only get better.
But how do you know if the economy is at the top of a cycle or at the bottom? Unfortunately, it's not always easy. As I mentioned, the economic cycle is a rather rough curve, not a smooth sine wave as suggested in Figure 1-6. Even in retrospect, it may be hard to pick the exact bottom or exact top. Fortunately, that isn't necessary. It's only critical that you identify an inflationary or recessionary period when you're in it. Each period lasts at least 12 months. You have plenty of time to make up your mind.
In a typical four-year cycle, you have one year in an inflationary peak, one year of downward sliding through an inconclusive period, a one-year recessionary bottom, and finally a year of upward rising through an inconclusive period. The really critical periods are the top and bottom of the cycle. See Figure 1-7.
Let's say that you've been watching the economic trends. You feel pretty sure the cycle has peaked out and it's starting to head downhill into a recession. Now what? Well, it's time to wrap up any projects that are draining cash out of your pocket. Get out of debt now, before buyer enthusiasm is gone and bankers begin to get cautious.
Switch horses before the inflationary bubble bursts. Stop building speculative houses. That market is about to collapse. Start bidding more work for other contractors. Go to work on someone else's money, not your own. If you wait until the recession's in full swing, the pickings will be slim. Too many contractors will be bidding for what little work there is available. Make the switch months ahead of when you actually need the work. Don't wait until six months after the need arrives. That's too late.
Suppose you're in the opposite situation. You feel the recession has just about bottomed out. Now what? It's time to begin those new projects you've been planning through the last 12 months of downsliding. Begin slowly though. There's no rush. Remember, it's better to get into the market three months late and get out three months early than to get trapped in a negative market with assets that can't be sold.
As the economy strengthens, put less emphasis on contract work with others. This gives you more time to devote to your own projects. But don't withdraw completely from the contract market. You'll need that work again in a few short years when the momentum of the current cycle is gone.
Don't burn your bridges. You're going to need them again.
The kind of work to emphasize should be based on your evaluation of the economic conditions. Keep your workload in tune with the economic climate. If the economy is beginning to expand, gamble a little. Take short term risk. Speculate on a house or two, even a small tract or commercial building.
But if the economic cycle is shifting downward, it's time to switch horses. That doesn't mean closing down the business necessarily. Just avoid jobs that require a big investment. Go to work for others who are willing to risk their own cash, not yours. And do it before others recognize the trend in the economy.
To survive, strike a balance between speculative work and work you do for others. The quantity of each type should change as the economy changes.
If you're doing 75% speculative work for yourself in inflationary times and 25% for others, reverse these percentages when the economy hits the skids. That maximizes your risk in good times and minimizes it in bad times.
This risk-taking isn't gambling. Gambling is tempting fate. It requires neither planning nor forethought. Risk-taking is a deliberately planned and carefully executed action. Take risks when the options have been fully explored, the possible losses evaluated, the time limits established and the money set aside. There's little, if anything, left to chance. Take risks when the odds are in your favor, like the dealer in blackjack. You may lose a hand or two, but over many hands, you're going to come out ahead.
By now you should see that trying to do business the same way in good times and bad can literally break you. Recognize economic cycles. Learn when to start your projects and when to close them out. You'll increase your profits and reduce the risk of loss substantially. Switch from speculative building to working on contract for others when that seems advisable. Believe me, you'll save yourself a lot of money, time and heartache.
Up to this point I've covered several important points that should be understood by every construction contractor. But I haven't done more than mention one of the key problems that most contractors have to live with: debt management. The rest of this chapter explains what to do when old bills can't be paid.
Let's say that we've hit the bottom of an economic cycle. In spite of all the planning you've done, losses on old jobs left piles of unpaid bills. There's money coming in on the current job. But it's not enough to clear up all debts on previous jobs. Here's your dilemma. Who gets paid? Suppliers and subs on your current job, creditors on prior jobs, the most insistent creditor, or a little here and there to keep everyone happy.
If you use receipts from current work to pay creditors on prior jobs, that's called transferring debt. There's one serious flaw in transferring debt.
It doesn't work. You only succeed in creating a whole new group of unhappy creditors. Instead of having a single group of suppliers and subs you can't work. with, you now have two groups. You create one more unhappy group of creditors each time you transfer the loss. Eventually word gets around that you sting everyone you work with. And no one wants to work with a slow pay contractor. So avoid transferring debt. It's notoriously unsuccessful and totally unrewarding.
There's only one kind of cash to transfer from one job to another - real profit left over after all bills have been paid. Otherwise, pay current debts first. You have to stay in business to payoff debts. Paying your current debts keeps you in business. If you go out of business, everybody loses - especially your oldest creditors.
You Can't Make it Up on Volume
Do you remember the story of two brothers who decided to go into the apple business? The first day in business they bought a truckload of apples at $10.00 a bushel and drove their truck to market. Unfortunately, apples were going for only $8.00 a bushel. But the brothers were in the apple business, so they sold off all their apples. Then they added up receipts for the day and discovered a problem. The older of the two brothers sat down to think up a solution. After some time had passed, the older brother approached the younger one with his answer. "What we need," he said, "is a bigger truck."
The moral to the story is simple. If you're losing money, more volume will only lose it faster so you'll go broke sooner.
Don't fall into this trap. It's an illusion. If you're losing money, volume isn't the answer. It only compounds the problem. Sure, more volume may make more money. But increased volume almost always requires accepting less profitable work. That can be fatal for a contractor who's already in a profit squeeze.
Here's an example. Suppose you do a $100,000 job and make $10,000. You've made a 10% profit. Now let's say you do a $1,000,000 job and make $80,000. Sure, you've made more money, but the profit is down to 8%. While it usually takes more volume to make more money, every extra dollar in volume won't produce a proportionate increase in profit. And if you're not careful, eventually you'll catch one of those jobs that turns into a solid loser. Remember too that volume building requires more time and effort on your part and more staff, equipment and overhead.
Volume alone isn't important. Only profits are. If you're ever going to get out of debt, you need to make a profit on each and every job. The money allowed in your estimates for supervision will feed your family. The overhead allowance can keep your office running. But only your profits will pay off old bills. If you don't make profits, you won't get out of debt, no matter how many jobs you do. It's as simple as that.
Making money in the construction business is a lot like football. It's the short yardage plays that win games. It's consistency, day in and day out that wins, not the long shots.
Try to avoid the lure of the big job until you've got the resources: staff, equipment, cash and management. Grow into volume gradually. Don't create it instantly. In the construction business, ten years is no time at all. The big volume contractors are mostly third generation companies. How can you hope to compete with them? They've got a hundred-year head start on you.
Take my advice. Do what you do best and make a profit at it every time you do it. If you work for volume, eventually you'll get volume. But don't leap into a volume operation on the backs of unsuspecting suppliers and subcontractors.
Finding a Group and Regrouping
To dig out of debt, you must first regroup. By that I mean reorganize to cut expenses, even if it means going back to working with your hands for a while. If you're using the supervision money in your bid to pay a foreman, stop. His wage is money that could be used to feed your family. A foreman on the job is eating into your profits. You'll never pay off your debts that way. If you're paying a secretary and a bookkeeper, it's time to let them go. Have your wife answer the phone and do the books.
If you own expensive equipment, sell it and rent it back when you really need it. You're in no position to play super-contractor. High loan payments on idle equipment, unnecessary staff and extravagant overhead costs will bankrupt you. If you can't stand the thought of answering your own phone, driving an old truck and working on the job yourself, turn directly to Chapter 4, which deals with bankruptcy, because you're going to need it.
Regrouping is a slimming-down process. It's reorganizing to eliminate under-used labor and assets. It's also the establishing or re-establishing of a working group of professionals that can help salvage your business. This working group should include an attorney and a certified public accountant.
Here's my formula for regrouping a construction business on the brink of bankruptcy.
Start by evaluating the group of people that currently work with you. Review the performance of each. Look at what each of them costs you annually and what you're getting for your money.
If your attorney charges you for every phone call he places and each letter he writes, you have the wrong legal counsel for your kind of business. He may be O.K. for General Motors, but not for you. You'll go broke trying to pay him. Your attorney shouldn't be a family member or relative, either.
Relatives are usually too close to the problem to be impartial, frank and realistic. They'll become "yes-men" if you let them. What you need is an attorney who has nothing to lose by telling you just how things really are.
It's not a bad idea to look for an attorney who may need your services as well. An attorney who's going to build a new home, an addition, or do some remodeling, may be willing to trade services.
That helps you hold the line on legal expenses. But select a lawyer with the background and experience you need. My advice is to find a lawyer who specializes in real estate and construction work.
Follow the same rule when selecting an accountant. Certified public accountants are licensed by the state and are responsible for their errors and omissions. A bookkeeping service or unlicensed accountant usually costs less but may not be as reliable. Also, CPA's usually know more about tax laws, partnerships and corporate procedures.
Find professionals who are mature and stable. This may take time. But getting good legal and financial advice at a reasonable cost is worth the time and trouble.
When you regroup, make your organization as streamlined and frill-free as possible. Avoid computers, fancy phone answering equipment and the like. Don't hire help if you or a family member can do it and keep the money at home. That way you can always borrow it back if needed. If you're running several different companies, it's time to consolidate them into a single company. If you're operating as a corporation, consider the advantages of sole proprietorship. A corporation requires additional reporting and at least a couple of hundred dollars a year in corporate taxes. That money could be better used to payoff overdue bills. Figure 1-8 shows how the many functions of many businesses are organized around a single core of common services.
How Long In, How Long Out
How long will it take to get out of debt once the company has been streamlined and regrouped? Of course, it depends on how deep the debt is. There's no single answer. Some companies will never recover. But here's a rule of thumb that seems to work in many cases: It will take about twice as long to get out of debt as it took to get into debt. If two years of mistakes caused the problem, allow four years to recover. About 75% of your debts should be paid off in the first two years. The remaining 25% will require another two years. See Figure 1-9.
Paying off debts takes longer than creating them because a company deeply in debt has to reduce volume drastically to survive. Volume may be onehalf or less the volume when times were good. During the inflationary phase of the construction cycle, it's easy to make money. But builders don't go broke during good times. They buy assets that they expect to sell or use. Then they go broke when work stops. That's when it's hard to make money and harder still to get free of debt.
If it took a year to get into debt, you'll spend the next year stalling, buying time, reorganizing and looking for profits. During that first year you'll payoff only 15 or 20% of your debt. In the second year you'll develop a steady cash flow that can begin to pay bigger chunks of your obligations, maybe 50 or 60% of the remaining debt. The last few creditors may have to wait for your third or fourth year of recovery.
Some creditors won't wait that long. But if they're going to sue, it will be during the first year of your recovery. I'll show you ways of handling lawsuits in Chapter 4. Remember also that 15 to 25% of all your debts will go away by themselves - some of your creditors will simply write you off, or get out of the construction business altogether, or go broke themselves.
Contracting is demanding, complex work. There's so much that can go wrong. You have to wear a lot of hats and maintain a positive attitude. Remember that clients prefer "up" people and that communication is important. Don't ignore your clients. Talk to them. Tell your clients right up front what the costs will be and what your fees are. They'll respect you for it.
If you expect to survive in the building business, learn to adjust to the economic cycle. You can't keep doing the same old thing in the same old way and expect to survive. Be prepared for change. Study what's happening to the economy. Adapt your business activity to the times. Live on the money in your estimates for supervision. Use overhead money on your work to pay office expenses. Use profits to pay the bills. Don't transfer debt from project to project. Pay your current obligations first - and only out of profits. Don't fall into the volume trap. If you're losing money, volume won't cure it. Establish a working group.
Include an attorney and a CPA. Don't play supercontractor. Trim your overhead: avoid the frills.
Once you've figured out the economic cycle, eliminated excessive overhead, reassembled your working group, finished the jobs that were losing money, and finally started to turn a profit, take some advice: Don't get carried away with yourself. Some contractors try to grow out of what they do best. Specialize in what makes money for you. Experiment if you must. But keep the experiments small and under control. Abandon what doesn't work. Get profitable and stay profitable. You'll soon have your money, self-respect and peace of mind well in hand.
CONTRACTOR'S SURVIVAL MANUAL
Explains what it really takes to survive hard times in construction and how
to take full advantage of the profit cycle. Whether you're just getting started
or have been bidding jobs and meeting payroll for years, this practical manual
will suggest the best ways to overcome a contractor's most persistent problems.
This book is based on the author's experience as a self-employed general contractor, developer and architect. It describes how to build a prosperous construction contracting or subcontracting company of your own, and how to avoid many of the pitfalls along the way.
Survival comes first. You're never going to thrive in construction if you can't get through a debt crisis: what to do when bills can't be paid, finding money and buying time, conserving income, transferring debt, handling angry creditors, assets to protect and assets to liquidate, setting payment priorities, cash float techniques, alternatives to bankruptcy, lawsuits, judgments, liens, laying the foundation for recovery, and deciding who should stay as your team climbs back to prosperity.
But getting back on your feet is only the start. Building profits comes next. This book explains:
Using other people's cash
Building financial reserves
Setting up to handle profitable jobs
Spotting the flakes and con artists
Zoning and permit problems
Design and build contracts
The art of estimating
Collections and lien releases
How to avoid tax, accounting, and payroll problems
Using limited partnerships
An important chapter shows how to invest in inflation:
Trading and postponing income
Selling the sizzle
Deal structuring and financing
You won't find conventional advice in this book. Instead, expect to learn what's really needed to survive and thrive as a construction contractor.
The Author. William D. Mitchell has survived over two decades in the building industry, designing and building everything from single family homes throughout the Western states to multi-million dollar projects such as reconstruction of the City of Paris Rotunda, now the Neiman-Marcus store in San Francisco, and the San Bernardino County Museum. He's a licensed architect, as well as a general contractor.
Mr. Mitchell knows about digging out of debt and dealing with creditors. About 10 years before writing this book, mistakes and some bad luck nearly sunk his construction business. But he survived and learned to avoid the classic errors that push so many contractors and subs to the financial brink. If you're tired of learning what not to do by doing it, spend a few hours digesting the practical wisdom contained in this book.