Construction is known as an industry with low profit margins, and the past few years haven’t done it any favors with rising costs for labor and materials. According to a recent report, theaverage profit margin in US construction is just 4.5%.
Meanwhile, construction overhead costs can add up quickly, putting a further dent in your profitability. There’s not much you can do about economic downturns or volatile supply chains, but you can do something about your overheads.
In this post, we’ll give you 12 strategies to reduce construction overhead cost, keep your projects running smoothly, and maximize your profits.
What Are Overhead Costs in Construction?
Overhead costs are those associated with the running of a business. They’re the essential expenses that make it possible to carry out day-to-day operations, as opposed to direct costs like materials and labor.
All businesses incur overhead costs, although they may differ by industry and company size. Here are some common examples:
- Office equipment, rent, and utilities
- Wages for permanent staff
- Purchase and maintenance of equipment and vehicles
- Insurance
- Legal and financial services
- Software
- Marketing/advertising
In construction, overhead costs are categorized as direct or indirect costs. Indirect (or general overhead) costs are those covering overall operations. Direct (or job overhead) costs are unique to a specific job, such as salaries for project managers and site supervisors, temporary office facilities, and short-term equipment rental.
One way to keep track of how you’re doing is to calculate your overhead percentage rate. This can be done through the following formula:
Overhead rate = (direct overhead costs / indirect overhead costs) * 100
If you plug in the numbers, and come up with an answer of 15%, that means for every dollar you make, you spend 15 cents on the overhead.
What counts as a good overhead rate varies based on the industry, the location, and other factors. However, generally speaking you want to aim for about 10% overhead.
Why Is It Important to Reduce Overhead Cost?
The main reason for keeping overhead costs low is that it helps you maximize profits. If your overheads are high, they’ll eat into your revenue and impact your bottom line. This means you’re likely to see low profits even if the business is doing well in other areas.
Minimizing your overheads can also prevent you from having to raise prices, which makes it easier to stay competitive. When you set project budgets and write bids, lower overhead costs allow you to charge a lower price for the project while still maintaining a healthy profit margin.
Reducing these expenses means you have more money available for investing in growth. It also makes your business more stable, so you’ll have less to fear from economic downturns or unexpected financial challenges.
12 Strategies to Reduce Construction Overhead Cost and Maximize Profits
Wondering how to get started for keeping overhead costs down and profits up? Here are twelve strategies you can implement:
1. Perform a Cost Analysis
It’s vital to have a clear understanding of your current overhead costs, so that you can figure out where to make cuts. A comprehensive cost analysis looks at both current and historical expenses, making sure you don’t overlook anything that would reduce your profit margins.
This enables you to plan and budget for projects with far greater accuracy. Performing these audits regularly will ensure you don’t let any expenses go under the radar.
2. Set a Realistic Budget
Cost analysis gives you a firm foundation for business budget planning. As well as overhead cost, you’ll need to include all other expenses and your expected income to determine how much is available to spend and where you can trim costs.
By looking at financial data from previous projects, you’ll be able to forecast the likely costs of upcoming ones and budget accordingly. Remember to review and adjust both the forecast and the budget as each project progresses.
3. Plan Ahead for Efficiency
Forward planning allows you to run the business more efficiently, minimizing wasted resources and incorporating contingency plans to prevent costly project delays that would raise your overheads.
For instance, if you arrange for rented equipment to be delivered at the start of the project, you’ll reduce the amount of idle time as workers can get started immediately. Keeping your own machinery and tools well-maintained also reduces the risk of disruption.
4. Improve Ap/Ar Processes
Effective accounts receivable (AR) and accounts payable (AP) processes are a key part of keeping a business running smoothly and reducing unnecessary costs. For AR, you can get paid faster by offering early payment discounts and sending polite reminders.
For AP, make sure you pay your suppliers and subcontractors on time—otherwise you’ll end up paying late fees, which won’t help your profits. You can also use lien waivers to prevent disputes around payment.
5. Build Relationships With Suppliers and Subs
By keeping on good terms with your suppliers and subcontractors, you’ll find opportunities to make savings. In a healthy relationship, it’s easier to negotiate favorable payment terms and discounts for buying in bulk.
Trusted partners will prioritize you if there’s a delay or a shortage, minimizing costly disruption to your business. It’s good practice to review and renegotiate periodically, and you can also shop around to get value for money from your insurance providers.
6. Boost Productivity
Before you hand out crew assignments, plan carefully to avoid scheduling gaps or overlaps and make sure they have the resources they need. If you cross-train your team members to perform a range of duties, you’ll cut costs by improving productivity and reducing the need to hire extra staff.
You can also reduce overheads by outsourcing temporary or highly-skilled roles—typically in areas like IT support, HR, or marketing—to external providers. That way, you don’t have the cost of paying these staff full-time or buying equipment that’s only needed sporadically.
7. Manage Your Inventory
Regular inventory audits enable you to keep tabs on what you have, where it is, and who has access. You can quickly identify and resolve potentially costly problems such as low stock or damaged items, and guard against loss or theft. When equipment is stored properly, it will last longer.
You may find that renting, rather than buying, machinery for certain jobs saves on storage costs as well as capital expenditure. Another way to reduce the cost of storage is to use the just-in-time (JIT) supply chain method, ordering materials only as they are needed.
8. Practice Effective Project Management
Put together a detailed plan and schedule for every job, and make sure everyone involved understands the timeline and the scope of the project. This reduces the chances of surprises or last-minute changes that could cause delays to project delivery and higher costs.
Allocate the right amount of time for each task — and overestimate, rather than under. Many tasks will have dependencies, so keep careful tabs on these to avoid throwing off the entire schedule if one task takes more or less time than anticipated. Keep track of progress with daily logs to spot potential problems early.
9. Implement Technology
The construction industry has been slow to adopt digitalization, with a recent survey revealing that 43% of organizations still don’t use digital technologies on any of their projects. But software is a great way to trim overhead costs.
For example, you can automate processes such as data entry and invoicing so that office staff spend less time on low-value tasks. Digitizing your paperwork and centralizing document storage in the cloud boosts efficiency and enables automated data collection.
Software can help you streamline everything from expenses tracking to inventory management, while financial planning tools are essential for accurate forecasting. Technology also makes it easier to manage incoming and outgoing payments, avoiding delays and disputes.
10. Take Advantage of Tax Breaks
There are various tax exemptions, deferrals, and deductions available for construction businesses, so be aware of what you can claim.
For example, a resale certificate enables you to purchase materials without paying sales tax, if they’re purchased for resale or incorporation into a project.
Section 179 allows you to deduct the cost of depreciable assets in the year of purchase, instead of depreciating them over time. Many states offer tax incentives (like 179D) for energy-efficient construction projects. Tax breaks help to free up your capital and improve cash flow.
11. Be Energy-efficient
Energy efficiency helps you reduce costs, and comes with the added bonus of being good for the planet! There are some methods that are easy to implement: move your paperwork online instead of printing documents, and consider allowing office staff to work remotely so that you don’t need a large premises.
Larger chances include using local suppliers to reduce transport costs, and making sure your vehicles are fuel-efficient. Encourage workers to carpool where possible—this also reduces fuel costs and travel reimbursements costs. High-quality modern machinery is more energy-efficient, and if you maintain it carefully then it won’t need replacing so often.
12. Increase Prices Incrementally
Lastly, another option for maximizing profits is to increase pricesat the same time as reducing overhead cost. This might not sound like the best idea, but you can do it over a period of time so there’s no sudden hike that will shock your customers.
Once you’ve decided on the size and time frame of the increase, make sure you communicate the upcoming changes well in advance to your existing clients. This can be a good time to make other changes to your contracts too – for instance, if you want to change to unconditional lien waivers, or adjust payments schedules. For new clients, you can charge the new rates from the get-go.
Final Thoughts
One of the best ways of maximizing your profits is to reduce construction overhead cost.
This involves forward planning, careful inventory management, maintaining good relationships with suppliers and subs, and leveraging technology. You can also make savings by implementing energy-efficient practices and being aware of available tax breaks.
By evaluating your current processes, you’ll find plenty of opportunities for minimizing wasted resources and running the business more efficiently.