Business Plans, Working Capital Crucial in Lean Times
To survive today’s tough economic times, builders need to develop detailed business plans that clearly spell out their cash flow projections and future performance, according to business management experts at an International Builders’ Show seminar in Las Vegas last month.
“The industry is in a survival mode today. Lenders are more involved in home building operations so now is the time to enhance your systems and processes,” said Steve Hays, partner-in-charge of RubinBrown’s Home Builder Services Group.
Stressing that monitoring key financial numbers and ratios is critical to achieve operating success, Hays said that total direct costs of construction should be no more than 80% of the home sales price.
“Direct construction costs, the ‘sticks and bricks’ that go into a home, are the biggest cost that a home builder incurs,” said Hays. “The characteristics of the best builders are the ability to monitor and manage these costs.”
To better manage overhead, Hays suggested that builders should cross-train their staff members to keep them productive; walk through their job sites often to identify needless waste and opportunities for savings; review each income statement to look for cost savings; and budget warranty costs and units closed in prior years to avoid unknown surprises.
Operating expenses are another area builders need to focus on, according to Felicia Malter, a partner in RubinBrown’s Assurance Services Group. For example, to decrease sales expenses, she suggested that builders construct no more than the number of model homes needed, review the days and hours that sales agents staff the model homes and market to their customer niche to avoid wasting their ad budget.
Declaring that net income is the most important number for builders, Malter told seminar attendees that if they had a bad year in 2008, they need to look at their balance sheet and make it as clean as possible moving forward so that when the market does bounce back, they will be poised for sales.
Malter also suggested that builders should strive to keep their debt-to-equity at no more than a 4:1 ratio.
She also noted that businesses that generally maintain a large amount of working capital will be more successful since they will have more latitude to expand and improve operations.
With banks tightening lending standards across the board, Malter said that builders need to be prepared for lenders requiring them to operate with less land, to construct fewer specs and model homes, to restructure covenants on debt-to-equity ratio and to maintain higher net worth requirements.
“I can’t stress enough that you must maintain an open and honest communication with your lenders,” added Hays. “Keep lenders informed on what is going on with your business. They don’t want any surprises.”
Efficiency and productivity ratios are also areas that builders should focus on, according to Steve Maltzman of SMA Consulting in Redlands, Calif.
“How productive is your sales team? You need to track the total sales per number of full-time employees and number of starts or closings per superintendent,” he said.
Other key measurements include sales and marketing data, such as referral ratios, defined as total sales or traffic divided by the number of customer referrals.
“Referral ratios are typically our best and cheapest resources,” said Maltzman, who added that builders who improve these ratios through follow-ups with their customers typically sell more homes.
In gauging their bottom line, Maltzman also urged builders to keep a close eye on quality measurements, such as the number of punch list items that must be serviced on each home before closing and total service request items per number of homes under warranty.