We can't prevent the next dip, but we can weather it better than the last. Industry veteran Tony Callahan offers some sound advice.
The prolonged downturn’s impact on the home building industry has been profound. The market dropped lower and stayed down longer than anyone anticipated it would. Some companies weathered the storm better than others, but everyone was affected.
We can’t prevent the next downturn: Home building has been and is likely to always be a cyclical business. But if we learn from our experiences, we’re in a better position to go through the next downturn better than we did the last. Lessons learned include realizing the benefits of diversification; focusing on core competencies; leveraging moderation; integrated design; technology adoption; systemic land management; and the power of good people to get you through.
Three developers are better than two. Two banks are better than one. One installing trade is never enough. When the market dips again (and it will), and your developer runs into trouble, you’ll need others to help you. When someone in a far-off corporate bank office calls your loan, a relationship with another bank will see you through. When a trade suddenly closes his doors, you’ll need another who is already set up in your system and ready to meet your schedule. Though I’m a strong proponent of single-source national manufacturing agreements, experience has taught me to diversify all other areas. Lesson No. 1: Don’t single-source banks, land developers, or trades.
During the recession some builders further diversified their range of services by branching into remodeling or multifamily rentals. Diversification into a countercyclical area can be a good idea if it’s within your business’ range of core competencies. That said, stay with what you do well. During the downturn, some builders ventured into vertical integration by self-performing everything from material distribution to installation services. The success stories are few and far between, and those that succeeded approached the vertically integrated activity differently from their home building business, and they hired people whose expertise was in the specific integrated activity. Lesson No. 2: Focus on your core competencies.
Some leverage is just the cost of doing business, but too much can cripple a company when the market turns. We’ve all seen good companies crumble under the weight of their debt and others struggle to regain their market position while trying to rebalance an out-of-balance sheet. Some of the fastest growing home builders in the business didn’t survive the last downturn. Others entered the downturn with lots of cash, seizing one great land deal after another. It’s hard to compete with a builder that has a significantly lower-cost land bank when you’re paying current market rates for land and above market rates for capital. Start planning for the next downturn. Think about what you can do today to position your company for success through the next trough and into the following peak. Lesson No. 3: Don’t overextend your company with debt. Save up for downturn bargains.
Successful designs can’t be done in isolation. Start with the buyer in mind, developing floor plans that set you apart from your competition. Involve suppliers and installing trades early in the process so floor plans are designed for ease of construction, material efficiency, and minimal warranty cost. Effective cost management begins in the design phase; inefficiencies in the floor plan will carry through in material utilization, installation labor hours, cycle time, and sales absorption rates. Use BIM to build the plan virtually, identifying plumbing/beam conflicts, incompatible construction details, poor material utilization, etc. Lesson No. 4: Good design will help you through the peaks and valleys of a housing cycle.
Use business intelligence applications to track sales, warranty expenses, cycle time, cost variances, material use, suppliers, trades, and employee performance. Make adjustments in your business and staff as soon as possible to correct poor performance. Track leading indicators, such as interest rates; housing sales, starts, permits, days on market; owner occupancy rates; and employment. Home building is getting more complex as the requirements of homebuyers, design review boards, code officials, developers, and even suppliers and trades increase. A jobsite should be treated as a production system. Between half and three-quarters of the typical home builder’s cycle time is spent waiting for something to happen or reworking something that did. Use technology to synchronize suppliers and installing trades. Look for opportunities to use systems to automate transactions. Lesson No. 5: Use technology to track market changes, automate transactions, and manage complexity.
Balance self-development, finished lot purchases, and options. Depending on your core competencies, local market opportunities, and resources, you may be involved in all three. Whatever your approach, make adjustments as the market turns. Have some “A” locations in your land bank and don’t get caught with too many or too few lots. Know that “B” and “C” location home sales are often the first to slow in an approaching downturn, and this is often a leading indication that the market is softening. Lesson No. 6: Balance land positions, options versus purchases, and years of supply.
People are your greatest, most powerful asset. I’ve had the opportunity of working with some of the best people in the home building business. Some were treated as a cost rather than as a capable, respected resource; others were seen as essential to getting the company through the downturn.
I recently expanded my business to include recruiting services. Business is booming. Almost everyone is trying to fill open positions created by growth or turnover. I’ve seen firsthand the effects of how a company treated its employees in the downturn: It shows up as an undervalued employee’s willingness to leave for another opportunity.
Wages are at or near pre-downturn levels, so pay your people competitively. Create a workplace where they’re respected and challenged. Put them to their highest and best use so they can give you a return. Address poor performance—or it will sink the morale of the whole team. Understand that anyone worth their salt is in high demand right now. They have options—if they’re not respected, challenged, and well-paid, they may leave. Finally, in a downturn, hang on to your good people for as long as possible. Cut costs in other areas. There are plenty of opportunities. If you need help, call me. Lesson No. 7: Respect, good compensation, and challenges help retain good employees.
These are just some of the lessons learned from the last downturn. Do you have more to share? Please write me at firstname.lastname@example.org.
Tony Callahan is president of Callahan Consulting Group, callahanconsultinggroup.com.