Workers on the roof of a construction project

In the face of today’s economic landscape, the construction industry is facing a variety of business issues and challenges. These issues are not uncommon as far as business dynamics go, but there are certain characteristics that make them uniquely taxing and require specialized strategies to provide impactful outcomes.

The issues affecting virtually all construction businesses according to their unique circumstances or nuances include:

  1. maximizing business operations as expenses rise and profits narrow
  2. controlling labor issues and costs at a time when wage inflation still exists, and
  3. identifying and leveraging the benefits of technology without investing too heavily with human or financial capital.
Maximizing business operations and profitability

With the volume of construction projects slowing because of the economic climate, there likely will be increasing competition for projects which may put pressure on companies to sharpen their pencils to win. With other expenses including materials, labor and insurance increasing, profit margins already are being squeezed.

This makes efficient operations and a focus on profitability even more critical.

Profitability can vary significantly among general contractors, subcontractors, and specialty trades, depending on size, sophistication, and management practices. According to the Construction Financial Management Association’s 2023 benchmarking study, in 2022 the top quartile performing construction firms averaged a 9.9% net profitability level. The overall average was a net 4.9%.

The difference between “best of class” and “average” likely can be attributed to greater efficiencies, more accurate estimating, better managing of overhead expenses, and quicker responsiveness to challenging business issues and market conditions. 

Monitoring and paying close attention to cash flow trends and benchmarking profitability are among the best solutions for construction and related companies of any size to mitigate certain pressures associated with improving business and financial operations. 

  • Cash flow options— examining payables and receivables is imperative to understand cash flow patterns and concerns. If it takes longer for money to come in than it does for it to be dispersed, the gap can cause significant operational problems. The greater the gap, the bigger the problem(s). Typically, the only way to address that gap—as it is occurring—is to take cash from the business or to rely on the availability of a business line of credit. Each of those “remedies” has a cost.
    Taking cash from the business may deplete capital that was targeted for investment in the business to allow it to grow and expand. Delaying certain accounts payable can result in credit issues. A business line of credit can be expensive, especially because of interest rates that have risen dramatically in the last 18-24 months. The long-term solution is to narrow the gap between payables and receivables. In fact, managing the gap should be part of standard operating procedures. There is hope on the horizon however as many leading economists are projecting interest rates to start decreasing in 2024. In a recent survey of 40 economists, completed by the Financial Times and Kent A. Clark Center for Global Markets, 35% of the respondents believe interest rates will decrease by 50 basis points, with another 26% believing interest rates will decrease between 75 and 150 basis points.
  • Benchmarking profitability is another effective solution because it identifies what processes and procedures are working well and making a positive contribution, and those that are creating a financial deterrent to the business. For example, the benchmarking analysis should lead to identifying systems that can improve operational efficiencies by capturing overhead expenses in the bidding process. This analysis can also look more closely at and evaluate alternative ways of doing business that may have become standard but should be re-evaluated, such as whether to buy, rent or lease equipment.
Controlling labor issues

The cost and availability of labor are increasingly important and challenging issues. Based on data from the Bureau of Labor and Statistics, in the construction industry there is an employment gap of more than 4 million jobs: the difference between the number of job openings and the number of people actively looking for employment.

While there may be seasonal peaks and valleys, it generally is an issue that knows no geographic boundaries. Further, the issue is not unique to the availability of labor, but the costs too. Traditionally since at least 2016, construction wages have increased on average 2.8% to 3.8% per year, according to the Bureau of Labor Statistics. However, in November 2022 the annual rate of increase averaged about 6.1%, according to ConstructConnect. That’s a sharp increase, even if the rate has experienced a slight flattening lately.

Historically, employment in the construction industry, which is physically demanding, could be lucrative, especially considered with other employment options. More recently, the gap has been narrowing. With employers like Amazon and McDonalds paying $18 to $20 an hour with limited or minimal physical demands, people who otherwise may have opted for a construction job are finding other opportunities. The older people get, the more they look for a job that isn’t as physically taxing.

In times such as these, where there may be a limited number of potential job candidates, construction firms can turn their attention to a couple of different solutions, one that is direct and one that is more universal.

  • Incentive and compensation planning—when the pool of available workers is constricted it becomes more important than ever to retain the employees the company already has in place. Further, employee retention isn’t just about the hourly wage and paycheck. Therefore, a more comprehensive incentive and compensation planning exercise may be critical. Such an evaluation can help conceptualize creative programs that will keep people engaged and loyal to the company. Among some of the examples that can provide tangible, quantifiable employee loyalty and performance incentives include:
    - Clearly defined future advancement opportunities. 
    - Bonus structures for those who are integral to projects staying on-time and on-budget; this typically applies to estimators and project managers. 
    - Phantom stock options that reward employees who contribute to overall company performance. 
Innovation and artificial intelligence

Artificial Intelligence may be one of the most consequential developments impacting all types of businesses, including the construction industry. Yet like all forms of technology and innovation, the extent to which it is being utilized varies by company and industry.

In the construction industry, the two most prominent uses include a focus on safety and 3D modeling. Drones and cameras are commonly found on job sites not only to track construction progress, but also to monitor safety issues as well as potential hazards. For example, a drone camera flying a job site can identify whether construction workers are following all safety protocols in the work they are doing and appropriately wearing goggles, hard hats and other equipment. Further, 3D modeling can help the construction team see what’s going to happen with each subsequent stage of construction.

With AI early in its infancy, especially in the construction industry, there almost assuredly will be significant change in products and capabilities over time. Of critical importance to construction firms, whose profit margins already are being squeezed, is the ability to calculate the return on investment associated with any given AI solution. This requires an analysis of the different solutions that are available, and the costs associated with acquisition and training.

Navigating today’s business challenges is increasingly challenging. Yet in most situations, with innovation, expert assessments and well-thought-out plans, there are ample opportunities to make improvements in business efficiencies, operations and profitability.

For more information on this topic, or to learn how Baker Tilly specialists can help, contact our team.
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Brian J. Kassalen
Partner
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