Reducing the Margins: A Bitter Pill

Vince Bailey

February 2009

Last month, we met head-on with a number of potential remedies to the problem of a shrinking market and the consequent increase in bidding competition. Value engineering, increased productivity, receding material prices, broadened scope of work and increased bid volume are all possible pathways to relief that deserve some serious consideration in these difficult times. But we rather coyly danced around what may be the greatest obstacle to work procurement remaining for many drywall subcontractors: a firmly entrenched reluctance to reduce overhead and profit margins to a level that allows the estimator to be competitive in a dog-eat-dog environment.

It has become painfully apparent to many astute estimators that today’s shrinking construction market demands a new market strategy—one that emphasizes a survival approach over the maximize-profits approach of yesterday. The problem of changing tactics arises when the estimator, who is at the vanguard of the market shift, feels the pinch more quickly and keenly than his sheltered employer, and it falls to the lowly bean-counter to broach the most taboo of topics with his superiors. But no matter how sensitive this third-rail issue of markup may be, the survival-minded estimator must nevertheless brave the slings and arrows of outrageous fortune or go silently to his demise as backlog rapidly vanishes. Seems like an easy choice to me.

In any case, the following is a series of suggestions on how a subordinate estimator might approach his employer with the proposition of lowering overhead and profit—i.e., putting less in his pocket—a tough sell by any reckoning.

One might start this daunting task by first pointing out the disparity between the present bid/procurement ratio of this quarter compared to this time last year, or even six months ago. Your sequestered employer may be surprised to find that his company’s sales have dropped to alarming levels in the past few months and may be equally clueless as to why. Incidentally, your presentation of this troublesome scenario should include the entire estimating department in order to paint a broad picture (and to negate a hasty conclusion regarding personal performance). You’d be prudent to quickly supplement this painful revelation by eliminating other potential factors in the procurement slippage—a concise dissertation assuring the owner that all other possible price-trimming avenues have been exhausted (hmm … that series of remedies suggested in last month’s column comes to mind).

Next, you should produce a long (and growing) list of competing bidders that have recently encroached on your territory. Where once there were three or four, there may now be 10 or 12 drywall subs vying for the same projects. Point out that as the market shrinks in other geographic areas, desperate subs will invade pockets of prosperity such as yours. Tell your employer how you have to fight with every available weapon in your fat-trimming arsenal in order to stave off the ravaging hoards.

Only now that you have convinced your boss that it is truly a last resort, may you confidently broach the subject of markup. Even so, it is much safer to start by proposing to cut overhead rather than to go for the sacred profit cow right away.

Tackling overhead as a potential way to remain competitive can be tricky too, but it has its advantages in that the markup aspect of overhead is (or should be) tied directly to actual overhead cost. Your employer may be open to suggestions on how to reduce these actual overhead costs as a precondition to cutting markup.

The possibilities are numerous, if not painless. With reduction in volume, a consistent reduction in your work force should be almost reflexive—a no-brainer. However, the notion of reconfiguring support personnel may not be so readily apparent, but just as critical. It stands to reason that shifting general field managers to onsite assignments would follow a reduction in field personnel. Similarly, certain non-essential support positions may be completely eliminated, such as equipment managers, fleet mechanics, purchasing agents and yard managers, while superintendents and project managers pick up the slack. Home office help may also fall prey to a well-considered downsizing or restructuring; for instance, a full-time payroll clerk position could now be outsourced effectively. Again, once the subject is broached, the prospects for cutting overhead costs are limited only by an owner’s level of creativity.

So, while reducing actual overhead costs may successfully convince an owner that overhead markup can be reduced proportionally, we continue to sidestep the profit side of markup—the sacred cow. We’ll deal with that one next month.

Vince Bailey is an estimator/operations manager for San Juan Insulation and Drywall, Durango, Colo.