In the United States we have a strong culture of growth and pursuit of opportunity. It’s part of what makes our country so great and unique. We live by sayings like, “If you’re not growing, you’re dying.” While there’s some truth to that saying, it can imply growth is always good, but perhaps in construction it deserves a disclaimer of, “Warning: Growing too fast may be fatal.”
So how do you know if you’re growing too fast? The reality is nobody can really quantify that to a single number. A contractor that completed one project for $1 million last year and takes on a $2 million project next year will grow by 100%, but that may be totally manageable for them. However, a contractor that grows from 10 projects generating $40 million in annual revenue to 20 projects totaling $80 million in a year may burst at the seams.Â
Rather than focusing on a single growth rate, contractors may be better served to evaluate the strength of their business in the following four areas.
The Bar is Lowering for People
Most business owners start out with one or two superstar key employees, which help launch them out of the gates. Then as they grow, many of the new employees hired aren’t quite as good as the early employees. Some business owners are tempted to “throw bodies” at it as they grow, which can lead to disastrous consequences.
Amazon combats this by trying to “raise the bar” with every hire, meaning the next employee has to be better than the last one. This is a way of continuing to improve the quality of the team, because the success or failure of any business will be directly proportional to the quality of its people over the long term. However, getting incrementally better people with each hire is extremely difficult, because it takes an incredible amount of discipline, patience, skill, and effort to find the right people.
Equally as difficult is when you think you find the right “bar-raising” employee, and they turn out not to be quite as good as you thought. I’ve seen this have disastrous consequences in construction companies many times, because often owners will delegate tremendous responsibility based on their confidence in the new hire. However, as Michael Watkins, author of The First 90 Days, argues, transitions are among the highest-risk periods, which makes active support and coaching essential during the first few months in a new role. This isn’t micromanagement, it’s setting the new key employee up for success and safeguarding the company in the process.Â
All that to say, if you find yourself rushing the hiring and onboarding process, and potentially lowering your standards, you may be growing faster than the company is capable.
Profit Margins are Declining
When companies grow quickly, it is very rare for them to maintain or grow their profit margins. I call this nirvana the “Trifecta”: growing revenue, gross profit margins, and net profit margins all at the same time. I’ve only seen it a handful of times despite working with hundreds of contractors. This is usually because their people, processes, and technology can’t adapt quickly enough to growth. With new people, it takes time to get them integrated and fully productive, and even if you are able to hire all the right “bar raisers” (which rarely ever happens on the first try), communication and productivity can suffer.
Growth also strains processes and technology, requiring investments of time, energy, and money to bring those to the level where they support the organization’s higher revenue. All of this combined can cause an imperceptible drag on profit.
Watch your margins closely as you grow and ensure your systems have the ability to provide you with timely and reliable information to measure your progress.
Receivables are Taking Longer to Collect
More revenue creates more receivables that must be collected. This is a very common area that gets neglected by contractors, and if you see your average receivables growing relative to your revenue, it’s a clear sign that your AR is taking longer to collect. Outside of ensuring performance in the field, collecting receivables is probably the next most important area that needs to be enhanced with growth, because when contractors can’t collect their money, it can seize up the operation much like a car that runs out of oil.
As you grow, step up your monitoring and collection efforts. Make sure you have the right people performing the collections and that they are being held accountable.
Change Orders are Growing Dramatically
Change orders also tend to increase with growth in revenue, and just like AR, if they are growing as a proportion of revenue, that can be a signal that the process needs to be managed more closely. Having properly trained staff to pursue change orders is equally as important as receivable collections, because when people are overwhelmed and pressured to finish projects, there is a tendency for getting change orders approved to fall to the wayside. However, if you can’t bill for work performed, that can create an increasing cash flow challenge that can cripple even the best companies.Â
There’s a saying that most contractors don’t go broke because they can’t perform the work. They fail because they run out of cash.
Conclusion
Growth is a common goal among contractors, but sustainable growth should always take priority over rapid growth. While contractors often worry about having enough revenue, it’s important to keep in mind that too much revenue can be equally, if not more, problematic.
As your backlog and revenue increase, keep a close eye on these four indicators. If you notice hiring standards slipping, margins narrowing, receivables aging, or change orders piling up, don’t ignore the warning signs. Slow down long enough to strengthen your foundation before taking on more work.
The contractors that build lasting businesses aren’t necessarily the ones that grow the fastest. They’re the ones that grow at a pace their people, processes, and capital can support.
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