Early Preparation Can Help Contractors Ride Out Storm

Guajardo stress that business owners need to be as flexible as possible when the economy is coughing.

By Leslie Guajardo

Leslie V. Guajardo, CPA, CCIFP, is a partner at Padgett, Stratemann & Co. LLP in San Antonio. She may be reached at 210-253-1530 or Leslie.Guajardo@padgett-cpa.com.

A new year has arrived for Texas contractors, yet no one seems to know what to expect. Clearly most states are in recession -- or something even worse that doesn’t yet have a name. We’re a bit luckier in Texas: Oil and gas revenues, defense spending, solvent banks, and a comparatively stable residential real estate market have kept our economy above recessionary levels.

All things considered, it would appear we will escape the worst of the downturn. That’s not to say we should start passing around the champagne, however. At best this will be an austere year for many contractors, and some of the weakest players probably won’t survive.

While the year is fresh, it’s important for contractors to conduct an honest assessment of their resiliency. Toward this end every aspect of the business plan needs to be evaluated and various scenarios considered. Contractors need to know whether they can survive if revenues decline 5%, 10% or 15%. If it appears such losses would make it difficult to survive, company leaders need to start developing contingency plans.

Contractors should begin the process by visiting with their financial partners, including their banker, bonding agent, certified public accountant, and insurance company. Lenders in particular need to be consulted without delay. Although the Texas credit market remains comparatively healthy, securing a loan or line of credit isn’t going to be as easy as in the past. Contractors should sit down with their bankers and find out exactly what the requirements are going to be this year. If possible, contractors should try to negotiate a larger line of credit now because that cushion could come in handy as the year progresses.

There are several steps contractors can take to prepare for inordinate financial challenges. Not all of them can be addressed here, but we can at least delineate a few of the most critical areas of concern.

Overall Spending: Now is the time for contractors to review last year’s spending patterns. Discretionary spending in particular needs to be closely examined: Last year’s ancillary spending may not be so easy to justify this year. When it comes to capital expenditures, especially for equipment, it might be best to delay purchases until next year. In fact, all planned spending needs to be weighed carefully against expected returns, and that includes wages and bonuses. When it comes to expenses, construction materials tend to be the biggest source of waste. In planning for this year, contractors need to make sure they order the proper type and quantity of materials on each job. If there was an inordinate amount of waste last year, the estimators are not doing a good job. With the cost of materials climbing dramatically, that problem needs to be corrected immediately.

Know Your Profit Numbers: Do you know what your profit target is, or should be? Many contractors really don’t. The average pre-tax net profit for general contractors is between 1.4 and 2.4 percent and for subcontractors it is between 2.2 and 3.5 percent, according to the Construction Financial Management Association. With profit this small, there isn’t room for risk. Owners need to look at the net worth of their company and then the projected overhead for the year. From this departure point, they can determine how much net profit they want to make and begin to track progress. While considering goals for net profit, contractors should begin thinking about doing more to separate themselves from their competitors. One way to do this by offering new services in a different niche.

Job Costs: Owners need to sit down with their accountant now and get an accurate assessment of what every employee and piece of equipment is likely to cost this year. The labor cost review should include taxes, insurance, workers’ compensation costs, health insurance, vacation, overtime, small tools, training, pension, profit sharing, etc. Equipment costs should include purchase price, finance and interest, payments, insurance, maintenance, tires, gas and repairs.

Employee Benefits: Many contractors are learning they can reduce costs and attain the same level of employee satisfaction by re-evaluating how benefits are packaged and delivered. Health savings accounts, for example, may be an attractive option for workers.

Retaining Key Managers: During periods of economic decline, contractors more than ever need to keep their best managers. Most surveys show salary isn’t the top job satisfaction criterion. What many employees want even more is an active role in decision-making, innovative benefits, deferred compensation, and upward mobility. By the way, it should be pretty clear by now that health-care benefits often determine whether a top manager goes or stays.

Cash Flow: Based on past years, contractors should be able to predict cash flow this year and budget expenses accordingly. By the way, if a contractor will be doing work for someone known for paying late, contracts need to be reviewed to make certain cash flow is protected in the agreements. What must be avoided is a late-pay scenario that actually leads to a shortage of working capital.

These are just a few areas that should be closely scrutinized as soon as possible. If the assessment makes it clear that major problems lie ahead, contractors shouldn’t panic: They just need to begin working with their accountant, banker and, ideally, a few outside advisers to develop a plan of action. If that plan calls for the contractor to step outside his or her comfort zone, then so be it.