Time is money, the customer is always right, estimates are free, every company wants and needs to grow. These expressions are so familiar that they sound like universal truths. Life has a way of being more complicated than we’d like it to be. I’ve definitely encountered rare situations where costly time was squandered, customers were wrong, and estimates cost a fortune.
Is growth always good?
To answer that question, I’ll ask another one. What puts more companies out of business, losing too many bids, or winning too many? This isn’t a trick question, and it doesn’t require any extensive market knowledge to answer. Consider the following. If a company doesn’t win any work, they’re not getting any income which means their overhead is consuming their capital until they’re insolvent. The overhead and the existing capital are known entities to the firm. This means that it’s possible to accurately define how long the company can remain in business without landing work. More significantly, it defines how the company can fail without owing anyone.
If a company wins more work than it can complete, it’s in a very dangerous situation. Contractually they’re obligated to complete the work and penalties for failure are severe. In real life, things don’t fail in a neat and orderly manner. One bad job has a way of taxing resources on all the others, systemically spreading the failure to everything the firm touches. A company that might ordinarily be able to weather one bad job is now facing the prospect of losses on all their projects at the same time. Taking on that one additional job might well doom the entire operation. The knock-on effects of this are severe. Clients and subcontractors are often left in serious financial jeopardy. It’s difficult to know the total downside risk, but it’s clearly much worse than having to close up shop for lack of work.
Risk versus reward
Businesses operate on risk versus reward relationships. Growing a successful business is often assumed to be a low-risk, high-reward proposition. After all, you’re just copying whatever worked to capture more of the market.
There are two assumptions underpinning this plan that have the potential to upend the whole risk to reward relationship. I’ll pull them out here.
“…copy whatever worked…”
“…more of the market…”
Let’s start with copying “whatever worked”. On the surface, it might seem like any entrepreneur or professional would have a solid handle on what they do, why it works, and how it can be copied. In my experience, this sort of corporate self-awareness is extremely rare. Quality control efforts tend to focus on detecting the signals and causes of failures. People just aren’t that curious about their successes. If something is working, there isn’t much incentive to push boundaries in search of weaknesses.
With their heads in the clouds, management keeps tripping on molehills
I worked for an entrepreneur who proudly told me that “big and clean” ground-up construction projects were the bread and butter of the company. A quick review of the accounting would show that “ugly and small” remodel projects constituted 85% of the annual revenue, and well over 95% of the annual profits. Simply put, the “ugly” remodels didn’t attract as much competition, so we could win with higher fees. Since they were smaller, we could do more of them per year with the same size workforce. This entrepreneur is by no means an isolated case. I regularly encounter professionals whose company “identity” has little resemblance to reality. Projecting the image of what they think they are into new markets rarely works out for them.
So, what’s the assumption with the “more of the market” part?
This is a two-part problem. First, if the firm doesn’t know what they’re good at, they’re unlikely to be aware of the market factors that influence their success. Very few companies are “good at everything” so there will only be a select few market segments that are viable to any specific firm. Those segments can have many factors that influence the quality, quantity, and frequency, of opportunities to seize upon. Simply put, there might not be “more” of the target market to pursue. This is especially true for niche contractors in depressed economies. Just before the last recession hit, there were lots of companies boasting about their growth into diversified client bases. After the recession hit, most of those firms had layoffs.
The venturi effect
Giovanni Venturi discovered the venturi effect which is visible with a simple experiment. Blow at a right angle to the opening of a straw placed in a glass of water. The venturi effect will cause pressure in the straw to drop, drawing the liquid up the straw.
During an economic boom, it’s not particularly hard to win bids. Companies quickly decide that they need to grow in order to capture more of the expanding market. So, they hire more people, buy more equipment, and generally take on more overhead. Now that they have this overhead, they need to win even more work to pay for it. The constant expansion creates a venturi-effect on overhead. Some readers have gotten this far and figure this is all normal growth.
The bids aren’t just placeholders in the process of converting opportunities into profit. Bids freeze the value of the project before it’s begun. Adding overhead to the company post-bid is effectively trading profitability for growth. During a boom, the revenue can be expanding so rapidly that it’s hard to tell that the individual job is actually getting less profitable. Eventually, many such firms reach a point where their very survival depends on growth because none of their jobs were won with sufficient overhead to pay their own way. Some readers might be asking themselves why the estimators at these firms didn’t react by raising the overhead in their bids.
While I’m sure that some of them do try, they’re often obliged to prioritize the more immediate problem of staying competitive enough to keep winning work. Estimators should understand that businesses in general, and managers in specific, tend to prefer a flawed but executable plan over an effective strategy that requires constant judgement.
Strategy versus planning
As individuals, it’s impressive how easily professionals can spot the unfortunate outcomes of rigidly following a plan. When personal accountability is threatened, many will claim “their hands are tied” by these selfsame plans. People respond to incentives. A “plan” sounds much less risky because people assume, they’ll be rewarded for following (or at least appearing to follow) the plan. A strategy that requires judgement means you might be solely responsible for anything that goes wrong, even if your reasoning was sound.
Longtime readers of this blog know that estimating isn’t about a plan or a process. Estimating is about controlling risk which requires good judgement. In my experience, the better your judgement, the less you have to fear in terms of accountability.
“Matt spends a lot of time looking for a place where his reflection matches his image.”
Where do you start?
Estimators need to understand the power of perception. Hard-charging entrepreneurs hire estimators to control risk, so they can focus on growth. When sports cars are advertised; the horsepower, the speed, the looks and the luxury are all prominently featured. Nobody’s talking about the brakes. Race car drivers know that better brakes slow the car in less time which means they can maintain higher speeds for a bit longer before they must brake for a turn. This means that they’re covering more distance in less time. As odd as it might sound, it’s entirely possible for a car with better brakes to win a twisty race against a car capable of higher top speeds.
Estimators looking to gain traction with leadership need to illustrate the effect of controlled risk. How does winning a given bid relate to securing a better position for the company in the future? Mindless assumptions should be challenged. I had a boss who wanted to “really impress” a municipal client with a very low hard-bid in hopes of securing no-compete contracts for future work. The city in question has charter rules expressly forbidding city contract award without a competitive bid.
Strategic thinking looks beyond the client-retention platitudes. In this example, there will always be competition, so the focus should be on maximizing profitability at the market-leading price point. In practice, we found that we were able to profitably win work in a handful of cities. Looking deeper, I was able to determine that a longstanding culture of bid-shopping among the local General Contractors (GC’s) in one city had created an incentive for the local subcontractors to work with out-of-town contractors. By being honest and forthright about everything including bid results, I was rewarded with better subcontractor pricing than my competitors.
Since repeat business depended upon winning bids, we had an incentive to reveal any design-driven chicanery that threatened to exceed the client’s budget. On one such project, there was a sole-specified vendor for window coverings that was three times the cost of their competition for a plain “white goods” product. From a strategic standpoint, the estimator has three options. They can bid per plans and specs hoping that everyone else does too. They can carry the cheaper product in their bid in hopes that it will be accepted by the Architect, and finally, they can expose the cost difference to the client on their bid form.
Options one and two depend heavily on the integrity of others for success. Option three risks angering the Architect by exposing their chicanery. When weighing the strategies, compare the relative risks. Any one of them might fail, thus losing you the job. Option two might still anger the architect when you submit on the “wrong” product. If the alternate material is rejected, option two could result in winning a job at a loss which is worse than not having a job at all.
Option three presents the least total risk and most potential reward. If the base bid is per plans and specifications, you’re not violating any trust or instructions. The alternate is voluntary and can be truthfully presented as an alternate equal. If presented as a way to achieve their design intent within the client’s budget, the Architect can accept your alternate and save face.
The “savings” presented can be whatever you choose to offer. Strategically, it’s smarter to allow yourself greater profitability to counterbalance the potential difficulty in getting an alternate approved. As an estimator speaking to leadership, this strategy is a win for the client and the contractor.
A journey of a thousand steps
Strategic growth is more difficult than it sounds. During the ebb and flow of larger market trends, it can feel as though a perfect strategy has no priority over your daily concerns. There will almost certainly be times where the best course of action is to simply press onward, making the best of what you have to work with.
Quick story. I started working for a company that chased hard-scrabble projects for low budget General Contractors (GC’s). Every client who put us on their bid list was treated like an unassailable gift from the heavens. Bidding was miserable because deadlines were short, bid shopping was rampant, and the work was virtually worthless. Things weren’t much better in the field where most of the jobs ran late, over budget, and suffered from chronic mismanagement.
Strategy was regarded as a nicety we never had time for. Since the jobs were small, I was constantly inundated with bids to keep everyone busy. Chasing larger projects with the same class of client didn’t improve my fortunes. By one year in, it was clear that our three “best” clients were a financial illusion. They hired us for more work than anyone else, but all of their work was so poorly managed that we lost productivity and profitability on everything else we had going at the same time.
I was deeply frustrated, and at an annual review, I presented a list of the top 100 GC’s in my area to my boss. I insisted that we make an earnest effort to get ourselves invited to bid on their work. Some put us on their “small projects” list which was a feeding frenzy of projects identical to the work we were trying to escape. Others only invited us to bid on work that was too far from our market. Eventually, we were invited to bid on a modest job with a major GC. It was a rousing success! Every single project since has been awesome. We met with their pre-construction managers where we learned that they were very selective about who they’ll invite to bid.
Mesas and Buttes
Mesas and Buttes are often confused. A Mesa is flat topped land mass where the width is greater than the height. In contrast, a Butte is a flat-topped land mass where the height is greater than the width.
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It’s pretty easy to spot market stratification in the construction industry. Some projects command higher prices than others, even when they are very similar. When we see “price point” markets, there’s a wide selection of mostly standardized offerings from similar providers. I once bid a job which had a tremendous number of bidders in each trade. Plotting the bid amounts on a continuum from smallest to largest, it was plainly obvious that the bids clustered around three separate values. Broadly speaking, the clustered bidders had strong similarities in terms of market share. Among peers in their cluster, all of the bidders were strong competitors.
Comparing individual bidders from one stratum to the other, it didn’t seem probable that they were looking at the same scope of work. For the most part, the bidders in a given stratum had similar economies of scale relative to the scope of work. At the cheapest stratum, the bidders were neither too big, nor too small, they were just right.
Bid invitations that are open to all comers will generally result in an award to the stratum that best matches the scope of work. We can visualize the market stratification as if there are populations living atop mesas of different heights. Everything is organized roughly the same on each mesa, but they’re too far apart to bridge the gap between them. Moving from one mesa to the other requires painful transformation because there are no resources at the valley floor. It’s dark down there, and there’s no one to guide you so only the determined, or desperate dare to try.
Markets can stratify in less obvious ways as well. Elite clientele may decide to solicit bids from only the most qualified general contractors, who in turn, will only solicit bids from the most qualified subcontractors (subs). In many cases, the business is conducted with such discretion that only the most observant of the mesa dwellers can tell that it happened at all.
Getting to this level is a formidable struggle, which is why there is less competition. We can visualize this kind of market stratification as a butte. The butte can be at the same height as a mesa, but the butte dwellers benefit from a completely different client base.
An island in the clouds
Chasing elite clients sounds like a foolproof plan, and honestly, there’s a lot to recommend it. However, there’s a big difference in the relationships that underpin every opportunity. Going back to my butte metaphor, it’s significant to realize that while the height might seem familiar, the boundaries are sheer cliffs. Any failure to perform, even the perception that you might fail to perform, may be all it takes to be kicked out. It’s critical to understand that these rules apply to virtually everyone on the butte. A GC with a sub that’s not performing, is an existential threat to their livelihood.
The greatest advantage of life on the butte is that you can’t exist here without doing construction management right. Half-baked, absentee Project Managers (PMs) doing their best to maintain plausible-deniability are not tolerated at all. This is a huge improvement for all concerned, including the GC, because the client is willing to pay the going rate for qualified leadership.
So what’s not to love?
Elite clients have different motives than commodity level consumers. Time and money may not be their primary concerns. For example, bank tellers require a lot of costly in-house and on the job training. Once a given teller has the necessary skills, they can easily work for a competitor. The bank was much more concerned about inconveniencing tellers, than time or money.
Elite clients know that they’re paying a premium, so they expect the build team to do whatever it takes to make the project successful. Design teams aren’t appraised by their construction documents (CD’s), or the efficacy of their management, but by their portfolio of built projects. The quality of the finished work may not reflect the quality of the original design. Astute readers will note how this “cuts both ways” for every professional involved.
There are many unique challenges to working for elite clients, but the biggest risk by far isn’t obvious to most people. When things are going well, life on the butte is pretty awesome. As a company, you can be doing less revenue for higher profit with less overhead, and manpower than you’re used to. When an elite market slows down, your company may face some really difficult adjustments in order to successfully pursue hard-bid work.
Estimators love to think that they’re constantly diversifying their client base in case of a turnaround. In reality, the butte work is always the highest priority. Coming down from that height and climbing back up the hard-bid mesa isn’t as easy as it sounds. Even if the estimating department is up for the challenge, the leadership and the workers all need to adjust to very different priorities.
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