The Profit Problem in Construction

26/08/2020
 

The construction industry is notorious for its low profit margins. In fact, it is not uncommon for contractors to begin projects anticipating a maximum profit margin of 1-2%, or even lower. This lack of financial flexibility combined with the often tight project timelines exerts an enormous strain on construction companies, making them extremely vulnerable to unforeseen project issues.

 

Any such problems will inevitably reinforce the often unjustified trope that construction always finishes overbudget and overtime, and more damningly can lead to contractor bankruptcy, as was dramatically shown with the 2018 collapse of UK contractor Carillion.

 

This article will explain why this is, and what, if anything, can be done to change the situation.

 

Self-Destructive Bidding

 

The reason for the endemically low profits in the construction industry can be relatively easily explained: hyper-competitive bidding.

 

As a contractor, it appears that the only way to win work and stand out from the crowded market is to put in many ludicrously low and optimistically timed bids for a wide range of projects. The prospect of low costs and a quick completion is certainly attractive for the client, but poses some serious issues for the contractor.

 

Firstly, the bidding process itself is highly expensive. On average, UK construction firms spend 3% of their overall sales on bidding alone, which, considering they only win roughly 1 in 5 bids, means that much of their potential profit is wiped out on jobs which they never even begin.

 

Unfortunately in many cases the problems worsen once the contract is won. The promise of low costs and rapid completion means many contractors seek to finish underbudget and in record time, having the potential to lead to rushed work, lowered quality, or corner cutting in safety standards.

 

Of course, the financial problems really begin to emerge when there is an unforeseen issue. Even one major problem can eliminate construction profit, and the tendency  of such issues to spiral can lead to serious contractor debt within a short time period.

 

This all comes at least in part due to the lack of financial cushion provided by low profit margins, made necessary by the hyper-competitive bidding process which appears self-destructive in multiple ways.

 

An Impossible Situation?

 

This is a problem that no one can resolve easily. Ideally, all construction companies would simply begin to operate with greater transparency with regards to costs and delivery time, building in an adequate financial buffer to allow for unforeseen issues.

 

Unfortunately, this would inevitably mean construction would become more expensive for the client. The first company to embrace this would undoubtedly become the first company to go bankrupt from a total lack of work.

 

Change then must come from elsewhere in construction. There is significant potential for innovation across the sector, with companies such as Kreo offering machine learning and other AI methods to reduce the time-consuming manual aspect of bidding, whilst helping to increase the accuracy of pricing by building in room for unforeseen issues.

 

Adopting such methods in tandem with newly-developed high-quality materials such as Gement’s geopolymer cement, would help the construction industry pivot towards a future which promises greater financial security, improved quality, and sorely- needed sustainability.

 

Oliver Moffat

Business Development and Marketing Assistant

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