| September 30, 2005 | Volume 5, No. 8 |
| Subscribe Here » | |
|
Markup & Profit: Continuing Education |
|
|
A newsletter for general and specialty contractors who are interested in improving their businesses and making a profit in construction. |
|
| Author: Michael Stone | Publisher: Construction Programs & Results |
| Editor: Devon Stone | http://www.markupandprofit.com |
|
|
|
| In This Issue: | |
It's fall in the Northwest, and all day we have experienced heavy rainfall.
If you've been following our blog
you know we are in the middle of a room addition on our own home. The gutters
were to have been installed 3 days ago, when it was sunny, but they didn't keep
the appointment. They haven't returned our phone calls either. Water is pouring
in sheets off the roof onto our driveway.
We are like every other homeowner - frustrated and disillusioned. How can anyone
expect to stay in business if they don't keep their commitments? How can you
just ignore a customer?
This is one reason the public has such a poor opinion of contractors. A few (or
many?) make the others look bad. Until more contractors behave like real
businessmen and businesswomen instead of flakes, the industry will suffer. Our
goal is to raise the bar; if you haven't read Michael's Ten Cardinal Rules,
please do. And send a copy to every contractor you know.
Then tell them to buy the audio or video tapes of the Markup & Profit
seminar. If you don't believe it works, read the Nice Things You Have Said
below, or scan the testimonials on our website.
We believe the image of contractors can improve, but it will take the work of
all of us.
Today's newsletter topic is not the topic promised. In our last newsletter, we
suggested you take measures to protect yourself against cost increases in light
of economic events, specifically higher oil prices and Hurricane Katrina. We are
expanding on that topic today.
Contract escalation clauses have been around a long,
long time. They have been primarily used on large commercial projects where
the job duration will exceed one year. However, with the increased size of
residential new construction and remodeling and recent economic changes due
to oil prices and Katrina, it is time to look at including a Contract
Escalation Clause in your contracts. If done properly, they will protect you
from the inevitable bump in prices. If done improperly, you are headed for a
big fight with your customer and possible legal problems as well.
Please remember this is not legal advice. We are not attorneys. Use any and
all of the materials in this newsletter at your own risk. We strongly
recommend that you consult your attorney for help in reviewing and/or
writing any contract language and especially a Contract Escalation Clause.
Depending on the work you do or service you provide, the primary function of
the Contract Escalation Clauses is to protect you against lumber and sheet
material price increases. However, in today's market, you also need to
protect yourself against increases on any product made from petroleum
(roofing and gas/diesel, floor coverings, etc) and anything else that could
increase the overall price of your job more than 2% to 3% at any given time.
Here are some things you should consider when compiling your Contract
Escalation Clauses:
How do you define the original prices that have escalated? The definition
must be specific.
On large commercial work the Contract Escalation Clauses is normally set by
price indexing the materials involved.
Specify materials and or labor likely to increase. Again, you should be very
specific on what the Contract Escalation Clauses includes. The term
"building materials" won't fly. Dimension lumber, all plywood, OSB,
particle board, TJI, manufactured trusses, fasteners, etc, give you a
specific definition.
Set the limit of escalation at 2% to 3% of original price on specific
materials. In other words, you will honor the original quote on the job
unless the price of the materials will increase your cost more than 2% or
3%. If the price of dimension lumber increases your cost by 5%, the owner
agrees to pay you not only the additional 5%, but you should also include a
percent to cover the additional bookkeeping and the time spent on the phone
and processing the increased expenses.
If you aren't getting a significant down payment on jobs, one option is to
have the owner agree (by contract) to pay you for materials on the day they
are delivered. That way you can pay the supplier that day or the next,
guaranteeing the price of the materials. Be sure and specify that if the
owner delays payment in any way, they are responsible for any price
increases that apply to those materials until they are paid. You could apply
this same wording to cover the materials that your subcontractors bring to
the job site.
The downside to this is that you must keep accurate notes. Everything I have
read says loud and clear, you must be able to document any price increases
above the original contract amount. If you can't document, you won't collect
the difference. Also be sure to specify how Change Work Orders are impacted.
Dan Cline, owner of Diversified Refrigeration Company, in Valley Springs, CA,
a commercial contractor, sent the following note, outlining what is probably
the simplest approach:
"The way we deal with this is quotes are only good for 30 days and if
it is a major material order we make the supplier hold their pricing for the
same period (or longer). If the customer wants to accept the bid after this
date, than we check the pricing and advise. If the job is accepted during
the 30 days we place the order and bill the customer, advising them of their
option to order early and save the increase in cost."
Sonny Lykos sent the following note about Contract Escalation Clauses:
"An 'escalation' clause such as you ask can be done, but only if the
contractor specifies the current cost of pertinent materials he included in
his proposal. For example, the cost of CDX plywood. Furthermore,
those amounts cannot just be inserted, but should be in the form of a
'quote' from a lumberyard at the time of the contract, and inserted as an
'Addendum' to the contract. By having the quote, the contractor cannot
later be accused of showing unrealistic 'current' costs as a tactic to get
more money."
I sent a note to Tom Reavey in Los Angeles, CA asking for his opinion on
Contract Escalation Clauses. Tom fired back the following question and
comment:
"Would any of this fall under 'The Act of God' clause? Things
outside of our control that impact a job. Usually you try and absorb
small increases, etc. You don't want to send the signal that you are trying
to gouge someone unduly, but if it is a legitimate condition that is
obviously no fault of the Contractor or the Owner, it is the Owners
responsibility to suffer the blow since it is his property that is being
improved and requires the materials that are costing a premium. It's not the
Contractor's property and the Contractor is not being enriched by the work.
He is just asking for what is reasonable to cover the increase cost of
materials, etc. I do have a clause in my contract that speaks to acts
of God, union issues; material increases after contract signing, etc.
I have never used it to collect for increased material costs but I would if
it meant taking a big enough hit. I would discuss it as soon as possible,
laying out the rationale, cost differential, and method we plan to use
for passing these cost increases onto the Owner. It would be important to
let the Owner see you are not doing this to enrich yourself but just to get
the increase material cost covered, as it should be, by the Owner."
Here is some language that we drafted up to give you a start. If you can
improve on this, please send it along and we will revise and repost this for
everyone.
Material Price Increase:
Owner understands and agrees that a material allowance amount has been
estimated and included to cover the entire expense of the {SPECIFY
MATERIAL(s)} for this job. This amount is included to set the price on those
materials in anticipation of potential material price increases beyond {CONTRACTOR}'s
control. The MATERIAL ALLOWANCE AMOUNT IS: ${SPECIFY AMOUNT}.
{CONTRACTOR} will notify owner immediately during the job if material price
increases cause the cost of {SPECIFY MATERIAL(s)} for this job to exceed the
MATERIAL ALLOWANCE AMOUNT. The Owner may then, at his option, terminate this
contract by providing within (#) business days both written notice of
termination to the Builder and payment to the Builder for all costs expended
in performance of the contract up to the date of termination, plus payment
of ${SPECIFY AMOUNT} based on the percent of completion. If Owner fails to
terminate this agreement upon notice of the material price increases within
(#) business days, {CONTRACTOR} may proceed to purchase the {SPECIFY
MATERIAL(s)} at the increased price, and the Owner shall be required to pay
the increased cost as provided herein.
Final review of all specified material invoices will be reviewed by Owner
and {CONTRACTOR} within 24 hours of job completion and the final price for
the {SPECIFY MATERIAL(s)} will be calculated, along with (%) for
administrative fees, and will paid to {CONTRACTOR} by Owner in addition to
the final payment for the job.
Additional Contract Escalation Clauses can be found on the NAHB Web
site. You can find much more information on the web and we encourage you to
do so.
Again, we want to remind you that this is not legal advice. We are not
attorneys. Use any and all of the materials in this newsletter at your own
risk. We also strongly recommend that you consult your attorney for help in
reviewing and/or writing any contract language and especially a Contract
Escalation Clause like we have included here.
Finally, please don't read this and set it aside with a plan to "get
back to it later." Price increases are coming at you as a result of the
big storms around the gulf states, and those that procrastinate are going to
pay dearly. The time to review and revise your contracts is now.
A Great Quote
"One ought never to turn one's back on a threatened
danger and try to run away from it. If you do that, you will double the danger.
But if you meet it promptly and without flinching, you will reduce the danger
by half."
- Sir Winston Churchill
Top
Hi Michael,
John and I wanted to share with you our progress this year. We are
always striving towards all we learned with you and this year we feel very
good about where we are and where we are headed.
To date John has estimated $838,722 and has gotten $406,864 of that total in
sales with the 8% profit. We also built a spec home that we started in April
and signed accepted offer Sept. 5th and close on it Oct. 27th. The
spec was a risk, but the offer was too good to not take the risk. It
was an offer through our lumber company which offered no payment (no
interest) on building materials for 5 months and no payment on the land for
2 years. It is also in a community that is booming. So, the risk
paid off.
Supposedly it is slow in this part of our area, as our sub-contractors are
telling us that other general contractors don't have much work and that we
are one of the busier generals. Makes me know that our consulting with
you has paid off.
One question I have for you: We still cannot seem to get a faster turn
around from the lumber company we work with for their estimates. Would
appreciate if you wouldn't mind giving me your valuable feedback. I
made comment to the sales rep last week that it should not take as long as
it does and he took that information to the estimators, who pretty much
laughed at my statement... well, I think they are idiots! My thought
is this, how much more business would this lumber company get if they could
turn estimates around faster? I know by us getting estimates to
customers faster, we have gotten A LOT more signed contracts... gee, must be
something to that, don't you think?
Also, because John explains everything up front now and all is spelled out
in our contracts we have a lot less problems. And cash flow continues
to be wonderful! Makes for one happy wife I tell ya!
Hope all is going well with your new addition! I check in now and then
and check out your blog.
Barb Techel
We must be vigilant in our efforts to keep the bureaucrats out of our business. As the old saying goes, when the legislature is in session, no business is safe. Here is a classic example.
I recently attended a convention and sat in on a class where a person was explaining a recovery fund to the audience. This person was employed by the state they worked in, to administer this fund. A recovery fund, of course, is used by the state to pay residential homeowners money for problems of whatever sort created by contractors.
The entire emphasis was on how much money the state had paid out over the last 25 years, not on how to get the contractors who were causing these problems out of our business. This speaker was so proud of the fact that their state had paid out over 50 million dollars in claims.
In the next slide of the presentation, we were shown a graph of the complaints filed in that state over the last five years. Sure enough, there had been a steady increase of claims against the fund and an ever-increasing number of complaints. The payouts had almost doubled in that period with an average payout now at just over $9,000.
Well, hello! A recovery fund doesn't work, won't work, has never worked and here is a classic example of it not working. This whole department should be abolished as an example of a bureaucrat's idea gone bad. They show us a slide proving the program doesn't work, and then have the audacity to stand in front of a room full of people and brag about how much money they pay out. By the way, a lot of good contractors are paying for a few bad contractors, and will be paying more if these bureaucrats continue to have their way.
When will someone finally figure out that the best, and for my money the only way to get rid of the bad contractors is to raise the bonding requirements to get a contractor's license. The minimum should be at least $50,000 for specialty contractors, $75,000 for residential general contractors and $150,000 for contractors doing commercial work. That will quickly eliminate the under capitalized people and make all applicants think long and hard about "being a contractor". It would also, I'm willing to bet, get rid of 9 of 10 complaints that we now get in this business that reflect negatively on all of us.
Just a thought.
Michael
- Check that September sales and production match company goal.
- Check production for last 3 months to be sure it matched your company goals.
- Check sales for last 3 months to be sure it matched your company goals.
- Continue ads out for winter work (January - February - March).
- Letter to old customers telling them you will winterize their home.
- Post card to your old customers reminding them you install and take down Christmas decorations, etc.
- Ads out for your "Thanksgiving to Christmas Special".
- Do third quarter taxes.
- If you don't have a business plan, now is a good time to start.
- Start an employee handbook if you do not have one.
- Check that all your sub-contractors license, bond and insurance is up to date.
- Take your wife/husband on a date.
In Our Next Issue - Issues that Bite Contractors in Their Assets
TopOur promise to you is that we will provide you the most updated and accurate information about running a profitable construction related business that we can find.
Thank you for taking the time to read this issue. If you know someone that would benefit from this newsletter, please let them know.
If you have a subject you would like discussed, let us know. Or, if you would like to contribute an article about a particular subject, send us an e-mail and we will be glad to discuss it with you.
If you have any comments or suggestions, please send them to michael@markupandprofit.com.
Michael is available for coaching or consulting, fee arbitration, expert witness testimony, and for speaking engagements. Contact him at michael@markupandprofit.com or call 1-360-335-1100 for phone consultation.
Thanks, and until next time . . .
We Like to See The Good Guys Win ! ! !
Construction Programs & Results
2818 NE 292nd Avenue
Camas, WA 98607
1-888-944-0044 (orders)
1-360-335-1100 (consulting)
1-360-835-1148 (fax)
Disclaimer: Nothing in this newsletter is intended to be, or may be construed as, legal advice. I am not an attorney. You must consult an attorney before using any suggested language or any other information contained in this newsletter to determine if it conforms to your state laws or your particular situation.
Construction Programs & Results © 2005. All rights reserved.Subscribe Here »