In a normal market, production and semi-custom builders should be shooting for gross margins that are 26% of revenue to achieve a net operational profit of between 10% and 11%.
Those benchmarks derive from the latest NAHB Cost of Doing Business survey, which the trade association conducts every two years. This year’s survey is based on calculations from business generated in 2010 by the 222 builders who provided NAHB with usable responses to questionnaires it sent to 10,000 builders in February and March of 2011.
That sample reported an average net operating profit of only $39,000 on $7.1 million in revenue in 2010. That profit number, however, was actually an improvement over 2008, when the survey that year found builders reporting a net profit that was negative 3% of revenue.
Over the past two years, builders have been getting their financial houses in order, observed Rose Quint, assistant vice president for survey research for NAHB’s Economics and Housing Policy Group, who presented the survey’s topline results in a seminar during the International Builders' Show in Orlando, Fla., last week.
A key barometer of whether builders have been on track continues to be gross margins, which are revenue minus the cost of goods sold, land at market value, and direct construction costs, explained Bob Whitten, a management consultant with SMA Consulting in Orlando, who offered analysis of the survey’s results during the seminar. On that score, the builder-respondents’ average gross margin in 2010, 15.3%, exceeded the 14.4% they reported in 2008, but was still less than the 20.8% reported in 2006 (a year when average net profit for the respondent group was 7.7%).
Broken down by region, builders in the Northeast generated the highest gross margins in 2010 (an average of 21.1%) and net profit (4%); builders in the West reported the lowest numbers in each category, 10.8% and negative 2.9%, respectively.
The survey (which NAHB is selling as a booklet) also provides comparative results for 2010, 2008, and 2006 in such areas as average land costs, assets, liabilities, and operating expenses. Quint and Whitten pitched the latest survey as a way for builders of similar size to benchmark their performance against their peers and make informed decisions on, say, whether their business justifies adding a superintendent or opening another model home.
Whitten’s analysis focused on what portion of builders' revenue should be devoted to different line items on their balance sheets when a market is “normal,” which Whitten defined as “just a little better than flat,” so that wild gyrations in land and home prices aren’t skewing market conditions.
Within those parameters, Whitten recommended that builders looking for 10% net profit should strive to keep their land costs at between 15% and 30% of revenue, their direct construction costs between 47% and 52%, their general and administrative costs between 4% and 5%, and their sales and marketing costs at between 5.5% to 6%, although Whitten acknowledged that many builders have been increasing their marketing budgets to counteract the housing recessions in their markets.
John Caulfield is senior editor for Builder magazine.