Manage and overcome supply chain issues
It’s time to talk about taxes. This week we’re tackling five important things every contractor should know about taxes. We’ll offer some general advice, address common tax mistakes we’ve seen contractors make, and dispel some pervasive tax myths.
Topics we cover include:
- The current state of supply issues and material cost increases
- Why you need to put a deadline on your bids
- How documenting and communicating frequently can protect you
- How to lock in prices with subcontractors and suppliers
- The importance of communication with your suppliers
- How diversifying your supplier base can help
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Rob Williams, Profit Strategist | IronGateESS.com
Wade Carpenter, CPA, CGMA | CarpenterCPAs.com
Stephen Brown, Bonding Expert | McWins.com
[00:00:00] Rob Williams: Welcome to the Contractor Success Forum. Today, we are talking about how to deal with material supply issues in this crazy COVID era of construction.
On the Contractor Success Forum, we discuss financial strategies for running a more profitable, successful construction business. And we have in one corner, Stephen Brown with McDaniel-Whitley bonding and insurance agency. And in the other corner we have Wade Carpenter, Carpenter and Company, CPAs. And I am Rob Williams, your profit strategist with IronGate Entrepreneurial Support Systems.
So how do we deal with the materials supplies when there are no materials? So.
[00:00:50] Stephen Brown: That’s a good question, Rob. How do we deal with them? The only reason we can talk about it, is you know, I can talk about the legal aspects of things you could do to protect yourself. Used to be involved with ordering massive amount of materials and–
[00:01:04] Rob Williams: Yes, I was. It was interesting. Yeah. Cause our deal was I would forward contract a whole year of hundreds of houses. So I’d have to buy, you know, 80 truckloads at once and forward contract that. We did try to hedge our lumber. Cause that was my first reaction.
And I actually, I went back in my attic, not too long ago, it was going through some stuff. And I pulled out the hedging instruction book and you know who wrote it for us? Enron. It was by Enron. So it was the Enron book of hedging and. Yeah, it was, and they had the home builder. So we were buying these future contracts and we thought that would be the way to do it, but there was no correlation between the price of these hedges and the commodities and what we were paying for lumber.
So it was just totally a speculative investment. It did not protect us at all about the prices. It just was another gamble that didn’t seem to be related. So then eventually I found out that these wholesalers somehow, I don’t actually understand how they control it, but I would buy the whole year’s worth the lumber at one time and lock that in, but I didn’t have to take delivery.
They were storing them in car yards around there, wherever they had them around the country. And so I would take them as I deliver. And it was, it was very, very effective. But it took me years to be able to get to that point. And that was cause I owned a lumberyard as well. So it was, it’s an advantage if you’re a contractor and you own part of your supply.
But not everybody has that thing, but you can possibly do what the builders would do with us and maybe get somebody to lock some things in there. But we also were not facing COVID. And so those contracts, would they have fallen out and not be honored in today’s environment too? So that was.
[00:03:00] Stephen Brown: Well, I see a lot of escalation clauses in contracts. They give you the opportunity at certain thresholds to pass that extra cost onto the owner and owners, you know, have been waiting to bid projects because they’re waiting for these prices to go down.
[00:03:17] Rob Williams: Yeah. Yeah, because, well, there’s in, in which way are you contracting? You know, have that escalation clause to protect you with pricing. That’s probably the best in your eyes. Maybe not best for the client. So can you somehow get the person downstream from you to lock that price in as well? That was the game.
I got nervous just hearing about this objective. I think my, my blood pressure went up a little bit and my heart rate was racing just thinking about this.
[00:03:47] Stephen Brown: Well, road builders have always had fuel escalation clauses in their contracts because the price of their products is so related to fuel. And then I was reading somewhere that even though lumber prices are coming down, that because of all the hedging that some place, the prices are actually going to be going up for a while.
[00:04:07] Rob Williams: Oh, well, there you go. There’s the hedging thing I was just talking about. So
[00:04:11] Stephen Brown: Yeah. So you and your book, Rob, I’m glad you’re not on the market anymore.
[00:04:15] Rob Williams: That’s right. The Enron course of how to hedge lumber prices. So you were reading earlier these percents of the projections of what they are just still go up. I thought we were peaking out.
[00:04:28] Stephen Brown: Well, this first quarter, 2022. 20% increase in metal studs, 18% copper, 18% PVC. I thought it was fascinating what the winter storms and Florida and new Orleans did the PVC production.
[00:04:46] Rob Williams: Oh, wow.
[00:04:47] Stephen Brown: Steel pipes up 10%. A structural steel, 8%. Hardwoods, 8%. Metal doors and frames, 8%. Batt insulation, 7%. Aluminum glass glazing, 5%. Lumber, 5%. And hardware, 3%.
[00:05:05] Rob Williams: So, so I actually, I have a project, I get some skin in this game here because my garage just got knocked down by a tree and the big storm we had in Memphis. So the insurance guys and the guys that were out here were saying, yeah, well, boy, it peaked right here in January. So, so they were like, get that price locked in now of what the coverage was.
But now you’re telling me we may have 20% more increase. So we were trying to get the estimated value, I guess, say lock the contract in, you know, right now. And then thinking that in a month or two, the prices were going to be lower. So I guess you just don’t know. I wouldn’t, I don’t think I played that one right.
[00:05:47] Wade Carpenter: You know, Rob, I’m sitting here thinking, I think we all probably could tell some stories about, you know, I know there’s a contractor that I have that was waiting on hundreds of thousands of dollars on one part. It was sitting on a ship from China, but, you know, Rob you, I know you and I have discussed the book, The Goal by Eliyahu Goldratt, which I think you had hired–
[00:06:08] Rob Williams: I worked with him. Yeah. I worked with him at my plant. He never came out, but I have worked with him on the phone and I bought all his videos and his courses and we would train our, our guys with all his stuff and he would talk to us over the speakerphone.
[00:06:21] Wade Carpenter: Right. But that thing reminds me of two different things. Number one, he was coming at it from a manufacturing standpoint. You know, you got something that is going to hold up the line. It’s gonna hold up manufacturing all the way down the line.
Exactly, the bottlenecks. And in construction, you’ve got 10 times harder supply chain issues. Cause you’re doing something different all the way, you’re. So the main thing that I wanted to point out was like, just like a chain, we are only as strong as the weakest link. And these supply chain issues have really brought out a lot of that in construction. It’s, it’s a tough industry.
[00:07:00] Rob Williams: Yeah, well, you know why we built the factory and the plant, was because of the bottlenecks. We wanted to control it. That’s why we got into the heat and air business and the plumbing business, because of the bottlenecks and the delays. And it was, you know, hot times and things were busy and controlling the supply, that was the way we chose to do it. Because we weren’t able to do it as a third party deal. So, you know, we had 15 acres and 80,000 square feet under roof to take that inventory. And now it got taken up by manufacturing equipment as well, but that was one of the ways that we did it. But that’s not typical. I don’t think most people can do that. Or should do that because in the long run that turned out to be a really bad idea. When ’09 hit, we lost our butts. So it got ugly.
[00:07:50] Stephen Brown: Well, we’ve got listeners listening right now that need ideas fast. How do you deal with it? How do you manage it? What are some things to do going forward?
[00:08:01] Rob Williams: Yeah.
[00:08:01] Stephen Brown: Any ideas?
Put a deadline on your bids
[00:08:02] Wade Carpenter: Well, I got a few things I could talk about. Number one, when you’re bidding jobs, put a deadline on them accepting that bid. If they don’t accept the bid, say within a week or two, you know, it’s subject to change because prices can change on a daily basis. We’ve seen that.
[00:08:17] Rob Williams: Yeah, we got into that even without a crisis. Just stocks and bonds. That can take your whole profit in just about any market. So yeah, definitely putting those deadlines.
Document and Communicate
[00:08:27] Wade Carpenter: You know, personally, I think you probably should be proactive with your customer, your general contractors, whoever you’re working with. You know, set expectations with them. And if you know there’s supply chain issues that your supplier might have, let them know up front. If there is something that’s going to hold something up, don’t hide it. Go ahead and put it out there.
[00:08:49] Rob Williams: Yeah, you need to help them because they might be able to put something in their contract that protects them. If you don’t bring it up, you know, boy, they’re going to want to make you eat it somehow.
[00:08:59] Wade Carpenter: Yeah, I know Stephen, you can comment on this, but you know, sometimes there are late completion penalty clauses. Number one, look at that before you sign a contract. But number two, if you’re stuck in one, you know, I would say document every single thing you possibly can that is outside of your control.
If your supplier can’t get you the materials, it may not be your fault. And if you’re documenting it, I think any construction lawyer would say document anything and everything to help your case if you end up, you know, in a situation where somebody’s trying to claim you didn’t do something on time.
[00:09:35] Rob Williams: Right.
[00:09:36] Stephen Brown: Right. Document and communicate. Yeah, that’s a good point.
[00:09:39] Rob Williams: And, and really learn, really learn what those are. Cause I know when my guys, my sales guys or superintendents would come back and tell me about these clauses and penalties and stuff, rarely were they actually telling me the correct thing, you know? So without seeing that piece of paper and what the contract was, they’re telling me what the superintendent told them, which he may have twisted that story a little bit to get it better.
So. You know, it’s sitting down and communicating about that. A lot of times we found out, okay, it wasn’t quite so tragic. There were some kind of clauses in there, ways to work around that. So getting that communication going, it’s not just telling them, it may really relieve you of some burden that you didn’t know you had an option.
Get prices locked in where you can
[00:10:25] Stephen Brown: I was just gonna say, you know, getting your subs locked down. And then if you’re locking down a sub, you have to give them the same kind of escalation language that you want to negotiate with the owner. But if you can do that and you have a sub that will lock down a price, you know, your price is only as good as the sub’s.
So if the project’s sub prices over, say $25,000, you ought to just consider bonding that sub back. Then you’re protected. And another idea that we talked about were the supply bonds. You have a big piece of material, a big pump or something that has to be specifically manufactured for your job. In other words, it’s just not on the shelf. You can get what’s called a supply bond and lock that price in.
Maintain communication with suppliers
[00:11:09] Wade Carpenter: Yeah. One thing I was going to say is you know, keeping in touch with your suppliers and just talking to them before you even bid a job, know these pieces that possibly could hold you up. Just talk to them and say, what’s going on in your industry? Are you having trouble getting stuff from overseas or, you know, there’s been a lot of trouble with transportation in this country as well. Getting goods where they need to be, especially, you know–
[00:11:35] Rob Williams: Has been just insane on the stories.
[00:11:39] Wade Carpenter: My suggestion is number one, talk to them before you bid a job, but if you’re ready to start a job, go ahead. lock that price in or buy it if you can. I know Rob’s talking about buying 80 truckloads of materials. A lot of contractors can’t do that.
And so one of the other things I try to advocate with contractors all the time about cashflow is don’t be ashamed to go ahead and say, I need some money up front for materials. And I think a lot of contractors are figuring that out right now. And I think that’s a lesson that we should learn right now, but also after these supply chain issues are past, there’s no reason a contractor should be the bank for their customer, their general contractor.
[00:12:20] Stephen Brown: Wade, we have more and more customers storing materials now, not only for themselves, but for friends, other contractors. It’s who can store the most materials and that’s how you get your money up front, are materials. They have to be in place and stored. And then usually one of the owner’s reps has to verify those materials are in storage. But make sure that you got good installation floater coverage and business personal property coverage on that inventory that you’re storing.
Don’t forget to call your agent. And once you raise it up and you get rid of those materials, then let them know to bring that back down again.
Diversify your supplier base
[00:12:57] Rob Williams: One thing that I didn’t realize was happening, I just was meeting with a client and they were talking about getting all these bits and pieces of parts. A lot of the sourcing that they’ve done was finding inventory in these craziest places and it wasn’t that they were getting this material from the normal supply chains.
They were, you know, scratching and scraping to find this stuff. And they’re saying, okay, there’s just nothing left on anybody’s shelves anymore. So I didn’t realize that so much of the supply chain was just taking those old inventories, parts and pieces– and this was a fairly techie mechanical type contractor– that those things are all disappearing. He said, we’re just done doing that. There’s nothing left to find in some shop somewhere. It’s gone. It’s used up. I had no idea that was even going on.
[00:13:46] Wade Carpenter: That kind of leads into my next tip, actually Rob. Most of us probably like our one supply house, but you need to diversify your supplier base. For whatever reason they may be out of stuff, they can’t get something. Maybe somebody else has it. So have a backup supplier or two or 10.
[00:14:05] Rob Williams: Yeah. Yeah. Well, you know, well, there’s the flip side of that too, is loyalty to what suppliers at the same time there might be backup. But then I know when it gets to this, suppliers aren’t necessarily selling to the highest person that will pay. A lot of them are selling to those ones that have been loyal to them in the past. It just depends on which supplier you got. Some people are not interested in rewarding the loyalty and some are. But yeah, this is when those suppliers get to start playing God of who’s going to get the material out and who’s not.
[00:14:39] Stephen Brown: Well, a job that was two and a half million dollars two years ago is $4 million now. I heard someone say that about a specific project that went on delay. But then owners are waiting now hoping prices will go back down, yet the money’s there to go ahead and do the project. So they’re finding more creative ways to substitute materials and get the job done.
[00:15:04] Rob Williams: Yeah, the redesign. Yeah. I’ve definitely read a lot about that. Different manufacturing methods and probably more components with wood trusses, things like that. If you can get those two by four Southern yellow pine in the door, then you don’t have to have that two by 10. You might be able to use a floor truss or some kind of a roof truss instead.
So I’ve definitely heard that’s picking up. I’ve had actually a lot of calls. I’ve got to meet with a guy this week about that. They’re looking and seeing different methods of how to get this stuff.
[00:15:37] Stephen Brown: I thought it was interesting, just the ports. You know, LA, biggest port in the country. They’re having a huge overflow of empty containers. They’re unloading stuff and they’re trucking and shipping it out. But the ships are wanting to go back fully loaded, not taking a bunch of empty containers. So there were something like 64,000 empty shipping containers bogging things up just in that port alone.
[00:16:04] Rob Williams: I’m seeing them here in Memphis too. My wife just said the other day we were driving by and she said, what is that? It looked like a new, you know, shipping yard or something with that. And I said, those are empty containers. They’re just sitting there. They just finding vacant lots to put these things on.
[00:16:19] Stephen Brown: We got to get those empty containers back to whoever’s helping provide us materials.
[00:16:24] Rob Williams: Right.
What else you got Wade on your list there?
Be aware of the risks your suppliers face
[00:16:27] Wade Carpenter: Well, you know, going back to the suppliers. Just be aware of the risks some of your suppliers face. Economic, I hate to say political, sometimes there are political things. The regulation compliance. Where they’re getting their goods from is exactly what you’re saying. If they’re trying to ship it overseas, they may not be able to get it. Again, these peripheral industries you know, the transportation industry, being able to get it to you.
The other thing is you also got to think about the financial health of your suppliers. Sometimes they’re struggling to get paid themselves and I vividly remember one about 10 years ago after the great recession that an electrical contractor down in Mississippi bought a whole bunch of electrical materials upfront and the supplier went out of business and he had to buy all that stuff again, never recovered.
[00:17:18] Rob Williams: Oh, wow.
[00:17:19] Wade Carpenter: And I hate to tell horror stories, but it happens. So you just need to be aware of what’s going on with your suppliers.
[00:17:27] Rob Williams: You know, and that does bring up the subject of managing those cash drivers, you know, Wade’s so good at talking about these because if you’ve been robbing Peter to pay Paul, you know, Stephen likes to say that a lot too. These are the times that it’s going to come back to haunt you, you know? So, the first thing is just becoming aware of the situations you’re in. I think most people just don’t have any clue. It’s all blindsided them. They don’t know where they are. So now doing something about it is another question.
[00:17:56] Stephen Brown: Well, you were about just the subject matter of a podcast was making you queasy.
[00:18:01] Rob Williams: Yeah, it did.
[00:18:05] Stephen Brown: You know, you gotta dig in there and find out the answers. That’s tough, isn’t it?
[00:18:09] Rob Williams: Yeah.
[00:18:10] Stephen Brown: You gotta know. You gotta know how bad it is before you can figure out a game plan to get out of it.
[00:18:16] Rob Williams: Yeah. So Wade, I guess is that one of the strategies y’all are digging in? I guess I would be too. Looking at those receivables, payables, whatever your cash drivers are.
[00:18:27] Wade Carpenter: Yeah. I would tell any contractor, number one, communicate with your owners or GCs. Communicate with your suppliers. When you set expectations, I think Stephen would probably agree, if you got a bad year on a bonding, you know, you want to know upfront and not be surprised.
In my world, that’s why we try to be very proactive with their financial and tax picture. Cause they don’t like me in April if they get tax surprises. Well, same thing with this, you know, there’s going to be supply chain issues that none of us are going to see coming. But the more you can foresee something coming and be proactive and upfront about it, the less bumps, hopefully you’ll see from it. I guess I would say.
[00:19:08] Rob Williams: Yeah, that’s right. We we’ve been talking about that for months and months. And we were really thinking about a crash when things stopped, but things hadn’t stopped. This is a supply crash, not a demand crash. And I wouldn’t call it a crash, but it’s a, it’s a situation. We’re in the situation room now.
[00:19:25] Stephen Brown: Communicate. Hey, your five financial board of directors. Your CPA, your lawyer, your banker, your insurance agent, and your bonding agent. Those are your five financial board of directors. And your business coach, Rob. It’s time to get together and communicate. If you’re stressed, you need to communicate. You’d be amazed at what people can do and what’s available.
[00:19:51] Rob Williams: Yeah. And if you hadn’t been doing those envelope systems for your money, those type things, which we call Profit First in your business, do it now if you’re not in that thing. Even if you are in one of those situations, still do it now so you’ll know where you are. But it’s better, the sooner you do this and you have your different buckets, the more prepared you’ll be for this to know what you have to do, because most people I talk to, you can’t even figure out what they need to do because they don’t know where they are. And the first thing is figuring out where you are so you know what options you have.
[00:20:26] Stephen Brown: You don’t know what you don’t know.
[00:20:28] Rob Williams: That’s right. You said it many times, so well, great. You got any more Stephen, and Wade?
[00:20:35] Wade Carpenter: Well, you know, unfortunately I don’t think any of us can give that one tip that will solve everything. There is no magic wand in this case. But you know, hopefully we’ve given a few tips on this whole thing that maybe made you think about where your bidding process is, dealing with your customers, suppliers, that’s going to help you. And you know, hopefully we will see this issue go away soon, but until it does, I think you need to be aware of it.
[00:21:03] Rob Williams: That’s right. Well, this has been great. And I appreciate you guys listening to the Contractor Success Forum. And as Stephen Brown says, you don’t know what you don’t know, do you? Yeah. So thanks a lot for listening to the Contractor Success Forum with Stephen Brown, Wade Carpenter and Rob Williams.
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