By BUILDER Magazine Staff Not so long ago, in a place not far from where you are sitting now, there dwelt a happy builder, the last in a long line of builders. Why the last? Ah, that tale of woe will soon come to light! But it must be laid out carefully, timber by timber, brick by brick. Our hero's downfall came not from a single sudden calamity, but through a series of hapless habits and bullheaded blunders. Perhaps, in hindsight, his exploits might caution others, like you, dear reader, to temper your cleverness and vigor with wisdom, as you toss your dice against the fickle fates.
Building companies fail with disturbing frequency. Too often, the end comes swiftly and tragically. Can you spot the seeds of destruction in your organization before your business card becomes a toe tag on a Chapter 7 application?
When the end comes, the priests of the free market will not confess you. The "death" of your business will go down as a natural, inevitable stage in a healthy capitalistic life cycle. Rise and fall. Ebb and flow. Winners and losers. As K-Mart dwindles, Wal-Mart looms. As HQ Home Quarters closes its doors, The Home Depot is there to hammer them shut.
Before you pull the short straw during one of these "natural" cycles into oblivion, why not improve your odds of survival? This special report takes a long overdue look at the roots of failure among home building companies. With the help of bankruptcy filings, academic research, and business experts, we went after the cold, hard facts you need to know. What's the real risk? How often do builders lose their shirts, and why?
First, let's get our terms right. By business failure, we mean the point at which a company's liabilities exceed its available assets. In the construction industry, that happens with uncommon frequency. According to data from the Small Business Administration (SBA), between 1990 and 1998, 14 percent of construction companies with payroll employees went out of business. Which begs the question: Why hasn't competition dropped off? Answer: Because during that same period, the average number of new businesses formed each year was 15.3 percent of the previous year.
Michael Carliner, who analyzed this issue for the NAHB, notes, "Within the construction industry, the highest death rates occurred among residential general contractors, operative [for-sale] builders, carpentry and floor contractors, and painting contractors." He adds one footnote to the SBA data: Some businesses described as "failed" may have willingly closed down. His evidence? About a third of the business owners described their businesses as successful at the time of closing.
David Arditi, a researcher and professor at the Illinois Institute of Technology, has studied the topic of building-company failures exhaustively. He suggests that many builders feel good at the time their businesses fail because they don't see it coming.
"Other research on construction failures has tended to focus on financial ratios," he says, "but we believe that once those ratios are bad, it's already too late. Managers don't see it coming because failure is a subtle phenomenon. It happens insidiously. There have to be other ways to judge what's happening."
"Builders are optimists. They have to be," says Al Trellis, the well-known builder guru who founded Home Builders Network in Mt. Airy, Md. "I suspect that a lot of them knew things were wrong, but they just figured they could work them out."
|The Face of Failure|
|Human/Organizational capital issues||8%|
|Adaptations to market conditions||3%|
|Hard numbers: This report, created using four-year records of business failures from Dun & Bradstreet (1989-1993), shows that about 80 percent of all business failures can be traced to five major factors.|
Source: Koksal, A., and D. Arditi, "Comparing Models of Construction Company Failure," Illinois Institute of Technology, Department of Civil and Architectural Engineering, November 2000Note: Numbers do not add up to 100 percent, due to rounding and a small margin of error.
"We started this research because there had been hundreds of papers written on how success happens in business," Arditi adds, "but nothing talks about failure. The first thing we looked at was the relative age of companies. What we found was that a building business goes through a period of adolescence, where risk of failure increases. Then, it plateaus and begins to decrease. We attribute this to learning and the establishment of legitimacy."
No surprises there, but there has to be a better way to minimize risk. Few businesses have all the answers. A recent study at Ohio State University (OSU) found that half of all decisions made by managers "fail" in their bid to become part of the company strategy. OSU researcher Paul Nutt says, "Managers seem committed to fast answers and fail to recognize that quick fixes make failure likely."