You and the GC: Why You Are Key
February 2007The Foundation of the Wall and Ceiling Industry launched a research plan to help wall and ceiling contractors prepare for how business will be transacted during the next 10 years and to help them plan now for how they will meet their future business goals. The Foundation surveyed contractors of the Association of the Wall and Ceiling Industry and interviewed a number of industry experts to interpret the survey findings.
The survey of members looked back a little bit (past 10 years) to get a better focus on the future (next 10 years). It was comprised of 15 questions that asked contractors their opinions about possible trends and how they see changes coming to the construction industry in general and the wall and ceiling industry in particular. Of the 1,128 surveys sent, 130 responded, representing an 11.5 percent response. All but three of the respondents were from the United States.
Also, 18 industry experts were interviewed to provide reaction and perspective on the survey responses. They represented a broad cross-section of the industry, including wall and ceiling contractors, manufacturers, distributors, suppliers and allied construction industry association executives.
The complete findings of the survey are presented in Preparing for Tomorrow, the latest offering from the Foundation Research Series. This article and others coming later this year are excerpted from the Preparing for Tomorrow publication.
This excerpt from the publication focuses on your relationship with general contractors—how it has changed from the past, and how it may change in the future.
Direct Purchasing: Good News or Bad News
Another aspect offered by online purchasing and business consolidation (larger companies with stronger buying power) is the ability to sidestep the subcontractor and purchase materials directly from manufacturers. The industry experts pointed out that direct purchasing is more prevalent in the residential market, primarily because the home building process is not as complicated as commercial building. They conceded, however, that if general contractors and owners could figure out an efficient way to manage scheduling, ordering, delivery and stocking the job sites, then this trend would expand to the commercial market. But at this time, the industry experts do not think this is likely.
Most of the survey respondents noted that they have not experienced general contractors or owners directly purchasing and supplying materials to the job site, but they indicated that they believe that this trend would likely increase during the next 10 years. Along these same lines, there is concern that owners and general contractors also will bypass traditional material suppliers and directly purchase materials from alternative sources, such as Home Depot or Lowe’s. Even though, the majority of the survey respondents are not seeing this now, a small percentage of respondents believe it is an up-and-coming trend.
The industry experts, especially the manufacturers, suppliers and distributors, agreed that neither Home Depot nor Lowe’s are expected to get into selling or distributing gypsum drywall to commercial sites in the near future. During the past two years, Home Depot has moved into the professional supply channels, such as electrical, plumbing, lighting, industrial water (fire hydrants and water mains) and mechanical. These more general, comprehensive suppliers and distributors have more product lines and thus are more attractive. Gypsum drywall is too specialized. The industry experts theorized, however, that if Home Depot moves into the drywall market, it will purchase other large suppliers who specialize in drywall for commercial construction. According to the industry experts, Lowe’s has no interest in wholesale. Its business model is to sell to consumers and to get them to let Lowe’s install their products.
Further, even though Home Depot and Lowe’s have a lot of capital, drywall suppliers are very well financed and organized. Wall and ceiling contractors also are very loyal customers. They believe that good personal relationships lead to good service and problem resolution. They are not likely to buy from someone new, which is why if Home Depot gets into this market, they will do it by strategic alliances or by purchasing the suppliers already in place as noted above. That being said, all agreed that Wall Street is putting pressure on Home Depot to create revenue, so anything is possible.
Decreasing Costs, Increasing Margins, Maintaining Quality
Within the construction industry, the pressure to do more with less also is changing the owners, general contractors, and wall and ceiling contractors’ relationship. One reason is owners are pressuring general contractors who in turn are pressuring wall and ceiling contractors to drive down the cost of construction without sacrificing quality, which are often competing goals. The pressure to reduce costs is causing financial challenges for many contractors, especially as the unpredictable cost of materials and the relatively predictable cost of labor continue to increase. Manufacturers, suppliers and distributors who were interviewed reported that owners and general contractors are trying to drive as much cost out of the supply chain as possible.
One of the root causes, according to industry experts, is that owners view the purchase of design and construction services the same way as purchasing other commodities. Owners look first for the lowest price and the fastest schedule. They also want the best quality but without paying a premium. The experts said the construction industry itself has to take some responsibility for this attitude because it has not done a good job of educating owners about the long-term operation and maintenance savings that can be realized through quality work.
The industry experts also said that, by and large, general contractors are no longer constructors or builders who employ experienced or knowledgeable project managers, but have become financiers and contract brokers. The result is general contractors are relying more on wall and ceiling contractors’ expertise. At the same time, subcontractors are being asked to accept more risks, while still being expected to produce quality work under difficult conditions. Some industry experts said that in their markets general contractors, more often than not, prefer to sign one contract rather than several and depend on wall and ceiling subcontractors to sub out work that is not within their scope. Survey responses clearly show that the trend of subbing out work traditionally handled by general contractors is already in place and will become even more pronounced in the next 10 years.
While this trend can provide a revenue stream for wall and ceiling contractors, it increases their financial (managing contracts, fronting payments to suppliers and subcontractors while waiting reimbursement from general contractors) and liability (general liability, workers’ compensation, design errors and omissions, overages) risks. Other experts noted, however, that in their markets, general contractors are dividing up jobs because of concerns that subcontractors will not have the manpower to do the work. (We will cover this subject more in depth next month.)
In addition to subcontracting out work, general contractors are requiring wall and ceiling contractors to do more engineering than in the past, and this trend is expected to grow. Two-thirds of respondents (65 percent) believe they will be required to do their own engineering on a job more frequently during the next 10 years, while fewer than 20 percent believe the trend will stay about the same, and only 5 percent believe the frequency will be less. Interestingly, the number of subcontractors who feel that they will not have to do their own engineering is just about the same for both the past 10 years (13 percent) and the next 10 years (12 percent). Some of the industry experts said they used to do their own engineering, but in the future they will sub it out because of concerns about potential liability. As the survey results show, this represents a minority view.
The experts agreed that general contractor expectations that wall and ceiling contractors take on more of the financial and construction risks is causing relationships with the general contractors to become more difficult as well as straining relationships with financial institutions and their ability to maintain cash flow. As a result, survey respondents believe that in the next 10 years, there will be a greater need for working capital and creative financing.
A risk management and cost-saving measure that is gaining in popularity among owners and general contractors are owner-controlled insurance programs and contractor-controlled insurance programs, also called "wrap-ups.” In OCIPs, the owner assumes the responsibility for insuring the project and administering loss prevention programs. Insurers and brokers claim that owners can save from 0.5 percent to 2 percent of total construction costs by using OCIPs. The savings come from eliminating mark-ups on insurance costs from project participants and obtaining lower insurance premiums than what project participants may be able to find. While OCIPS can include design and engineer professionals, most often they insure the owner, general contractor and subcontractors (Thelen, Reid & Priest LLP 2003; Resnick 2005).
CCIPs operate in a similar fashion but are the purview of the general contractor rather than the owner. According to the industry experts, general contractors prefer CCIPs over OCIPs. Because of the narrow margins (1.5 percent) in construction, insurance is one area general contractors can widen their margin. If general contractors have a good safety record and good risk management models, then they have a competitive edge. If an OCIP is used, then that advantage goes away. It levels the risk management playing field.
The use of these vehicles is not uniform nationwide, with California, Colorado, New Jersey and New York seeing them more often than in other markets, the industry experts said. Nevertheless, survey respondents believe OCIPs and CCIPS are becoming more popular among owners and general contractors, respectively, and expect their popularity to increase in the next 10 years.
Wall and ceiling contractors do not like either for a variety of reasons, but they also prefer CCIPs to OCIPs. Some find their use diminishes their buying power for insurance. Others feel they are very risky, especially for subcontractors who are not well-versed in how they work. In addition, the experts cited concerns about the gaps in coverage, indemnification language and liability transfers, which may leave wall and ceiling contractors unfairly exposed, OCIP and CCIP deductions that exceed actual insurance cost savings, and uncompensated administrative costs (Thelen, Reid & Priest LLP 2003; Resnick 2005, NSFA 2006).
While many wall and ceiling contractors may disagree, some of the industry experts believe that the future liability and financial risks will be spread more evenly among the entire project team. They also believe general contractors and owners will be more selective in choosing which firms to award contracts and will not necessarily pick the lowest bidder. This change in approach will be especially necessary as general contractors’ technical expertise continues to decrease, and they rely more on subcontractors to act as supervisors.