A cloudy housing market may have at least one silver lining for builders: It's giving them time to take stock of their businesses. But without targets and goals, such evaluations are less likely to result in improvements in productivity and profit.
Three CPAs whose firms specialize in working with builders used a seminar at the International Builders' Show on Tuesday morning to offer lessons learned from the current housing slump, gleaned from the way builders have tracked their companies' performance in the past, and what they should be looking at in the future to better assess their costs versus sales and incomes.
The speakers — Steven Hays and Felicia Malter from RubinBrown of Overland Park, Kan.; and Steve Maltzman of SMA Associates based in Redlands, Calif.— provided what for some builders might be a much-needed accounting primer, with points that revolve around 10 financial and operational measurements:
--Gross Profit Percentage (which diluted land values are playing havoc with)
--Operating Expense Percentage (which, among other things, needs to take into account significantly lower absorption rates)
--Net Income ("the most important number," according to Hays)
--Break Even (which ultimately determines how many houses a builder must build)
--Debt to Equity (Maltzman recommends a 4:1 ratio)
--Working Capital ("Now is the time for builders to rebuild their net worth," says Malter)
--Efficiency and Productivity Ratios (Maltzman observes that builders need to devise more detailed scopes of work and use those to get better pricing from subcontractors, as well as control direct construction costs. He says he is also a "huge advocate" of using purchase orders to monitor and control costs.)
--Sales and Marketing (All of the speakers agreed that builders need a better handle on the cost-value relationship between their marketing and their closings.)
--Quality (such as identifying what's a builder's No. 1 product defect is and measuring the management of warranty services)
--Scheduling and Construction Ratios (such as the time between a contract signing and when a home gets started, the stages of construction, and closings).
The speakers broke down each category to emphasize how builders should be using the downturn to scrutinize their operations for areas where cost reductions make sense. The speakers also said that builders needed to align their performance measures for a new day with volatile market conditions. For example, Malter said that banks are setting minimum interest rates on borrowing, which invariably will impact builders' operating expenses. "Be prepared for banks requiring higher levels of assurance," she cautioned. "And information will need to be provided in the timelier manner," which means that builders themselves will have to be able to retrieve performance measures quicker.
Their ability — or willingness — to do this, though, appears to be variable. Very few builders raised their hands when Maltzman asked how many knew what their companies' traffic-to-sales conversion rates were, or how well they were servicing warranties. Indeed, the speakers implied that the severity of the current downturn should be reason enough for builders to install controls through their operations that "raise red flags" when metrics start straying to wildly from budget assumptions.
John Caulfield is a senior editor at BUILDER magazine.
Learn more about markets featured in this article: Las Vegas, NV.