Minimum Bottom Line Profit Should Be > 7%!
After Income Taxes Are Paid!
There are about a half a dozen types of residential contractors. Each has a different function and goal, this article describes the different types of residential contractors and provides guidance to the reader in understanding the corresponding definition.
Below are a brief definition, description and example of the different types of residential contractors:
New Home Construction
This is a 200+ billion dollar industry. Most of these contractors are found in growing areas of the country. In general there are two types, the first will purchase lots and build custom designed homes. Commonly referred to as design/build contractors, these operations build homes greater than $300,000 in fair market value. A typical small contractor will build 5 to 7 homes per year in order to generate enough gross margin (See Best Format of the Construction Profit and Loss Statement for more information on profit terms) to offset overhead costs and generate a net profit.
The second type of new home contractor builds a house on a lot owned by the purchaser. This type of contractor is referred to as a builder because they generally don’t get involved in the design aspect of the house. Their goal is to build the house to the specifications of owner. There are legal issues related to this type of construction in reference to the draw schedule; see Construction Draw Schedule for more information about draw schedules. Typically the builder requires some form of higher deposit up front to protect his commitments for materials and subcontractors. Many buyers have to negotiate well in advance with their banker or mortgage company to ensure proper cash advances to the builder as the project progresses. This form of construction is less common than the design/build forms of construction because of the contractual issues in protecting the contractor for the advances he makes for subcontractors and materials on the site. Most often, the contractor buys the lot from the homeowner and resells the lot and house after the certificate of occupancy is issued.
In general, the new home contractor is the image most folks think of when they hear the generic term of a contractor.
Similar to the new home contractor, this type of contractor provides the service of adding more space to the existing house. This is a tricky task and requires a lot of experience because of removal of exterior siding and building the addition onto the existing frame. No two houses are alike in design or structure. Therefore your homeowner should research with more care the skills of the contractor doing this type of work. Most commonly, homeowners add on space for an additional bedroom or living area and most contracts are less than $100,000.
The price per square foot to add on to house is more than the average price per square foot for new home construction. This is due to several reasons. First there is no economy of scale for materials or subcontractors. Secondly, the removal of a part of the existing structure and tying the existing structure into the new addition adds to the overall costs. Third, the matching of color schemes and materials is difficult at best and pretty much impossible in most cases. As homes age, the material used in the industry and the formats change over time. Brick colors are not the same, and even if you could match the color exactly, weathering of the older material has caused the color to fade. Finally, the local department of codes and compliance often require some elements of the existing structure be updated to the new code in order to build the addition.
Remodelers are contractors that reconfigure or upgrade an existing home. Most remodelers upgrade kitchens and bathrooms to modern standards. As homes age, the styles and systems change. As an example, dishwashers came out in the late 60’s. Most homes built prior to 1965 did not have a built in dishwasher. In bathrooms, homes built before the 50’s used a cast iron standalone tub with feet in the bathroom. The plumbing was brought into this area of the bathroom in plain sight of the user. Today, the bathroom takes more prominence in the home with many users wanting more luxury in the bathroom to include jetted tubs and a separate shower from the tub. Remodelers provide this service.
In general, these types of contractors have less experience than your design/build new home contractor. Many contractors get their start in this leg of the industry. There is plenty of work available and the upfront costs to get involved are significantly less than the costs for a builder.
A typical contract is less than $40,000 and requires the homeowner to make a deposit and the contractor to take draws in increments from the homeowner over the period of remodeling. The main reason for disagreement between the parties is the time duration to get the project done. The homeowner is without a kitchen or bathroom for a lengthy period of time. Many contractors fail to address the truth about how long it takes to make the changes to the house. In addition, the modern fixture standards are different than those from the past and this leads to change orders. These types of issues are rarely addressed during the negotiation aspect of the contract and therefore remodelers have a poor reputation in the industry.
Acts of God provide the source of need for contractors in this leg of the construction industry. Typically the homeowner hires a contractor once the damage is created (by storm, winds, hail, fire, etc.) to restore the home back to its original condition. The insurance company funds the project. The contractor should be extremely experienced in construction because no two homes are built in a particular pattern.
A typical contract involves the homeowner, contractor and the insurance claim adjuster on site to review the details of what the restoration contractor is to provide. Any modifications or changes are typically borne by the homeowner. It is not uncommon for the homeowner to make some upgrades and do some remodeling at the same time. The contractor has to make sure there is clear separation between what the insurance company pays and what the homeowner is responsible for in this contract. Having been involved in this industry as the controller for several years I can attest to the importance of document, document, document everything. The insurance company is trying to minimize the claim value and the homeowner often looks at this situation as a free ticket to get some upgrades and in some situations an entire new house.
The positives for this industry is the credit worthiness of the insurance company that pays the bill, the drawbacks are the perfection standards set by the homeowner. I often refer to this as the little old lady syndrome. They demand absolute perfection and have very little understanding of the methods or why there is a shade of difference in the two tiles on the floor. They don’t understand that the ink used to dye the tiles is different between the lots of the product. I witnessed a lady cry because the stain on the hardwood floor was slightly darker in one spot than on the rest of the floor. Even though she had the floor covered in carpet and it was obviously where her pet urinated and stained the hardwood floor underneath. That stain is permanent. She assumed that when the floors were sanded that the stain would magically come out. The better restoration contractors use a process of educate, forewarn and document the process to alleviate these types of issues when it comes time to turn the home back over to the owners.
Often an extension of the restoration industry, emergency services encompasses the need to prevent further damage or secure the property after an act of God. This entails water cleanup services to drying issues. From boarding up windows to temporary patches to the roof. This segment of construction has many non-contractors involved. Most of them come from the carpet cleaning industry and provide suction and drying services after water damage. Many of the residential service contractors (described below) are involved too. Roofers provide temporary fixes for hail or tree limbs poking a hole in the roof. Demolition crews can strip all the damage out of a home after a fire so the restoration process can begin. Plumbers replace frozen pipes and so on. This aspect of the construction industry falls more under the purview of the insurance industry than any government authority. The insurance industry typically pays the bill involved.
Residential Service Contractors (Trades)
This aspect of construction has the widest spectrum of types or skillsets in the industry. From the landscaper to the trades (plumber, mechanic, & electrician) there are numerous providers of the various needs of a home. Since a home is built by many different types of skills, these contractors provide this diverse set of needs. Most of these contractors act as subcontractors to the builders and the additions/remodeling contractors. In addition they make themselves available to existing homeowners for irregular work. This is the industry where most builders get their start. They learn or understand one particular trade and then keep expanding into other areas. Next thing they know, they are remodeling, then providing additions. Finally they reach the level of vast knowledge and decide to get involved in the full construction of a home. This type of contractor is the nursery of the residential construction industry.
The above identifies the various types of residential contractors and the range of services they provide. By understanding the terminology and using the definition and examples above for the various types of contractors, a user of this information can apply this knowledge to his advantage. Act on Knowledge.