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Marketing property developments is all about creativity and creative type people. Turtle neck collars, a lot of black clothing and brightly coloured socks (or stockings). But we can break project marketing down to three core elements: creative, collateral and production. Each of which we consider for in-housing or outsourcing by assessing quality, ingenuity and the budget.

Creative

Consider just how creative you have to be on your project. What if you are trying to sell super luxury waterfront condos to a very discerning buyer in anything but a super-hot market and this is your first time doing so?[1] Outsourcing to an aloof high street creative agency, experienced in this market, is probably the best option. On the other hand, what if you are marketing an industrial warehouse complex? You probably don’t need such expensive talent. If you intend to use a large real estate agency they may have their own in-house marketing team. Their creative ability needs to be weighed up. Are they proficient at creating physical as well as digital strategies? Do you still need to engage other external marketing agencies? Or do you have existing staff that handle this project in-house.

When kickstarting a failed project, the creative side is probably not something to try and save money on by in-housing — unless marketing is your existing organization’s forte.

Collateral Design & Management

Collateral is a different matter. Collateral is all the brochures, plans, advertisements and marketing materials you might have in a show home or display suite. It also includes websites, social media, online distribution channels and the ‘doing’ part of any digital strategy (banner adverts, key words etc). Whilst specialist designers are required, they don’t need to be super-creative — as the conceptual work is already done. External marketing agencies can make a lot of money by producing this work. This is because it is typically the lower paid staff that do all the work, once the creative flavor has been delivered. You might be paying senior executive rates for work a junior is undertaking. In addition, the lack of control can be stifling and expensive. Often you are marketing developments while details are still in flux. There are changes from the architect, required by council or recommended by sales and leasing agents. Each time you make a change, the marketing collateral must be updated. That means more rework and fees from the creative agency. It can also mean waiting for them to schedule it in, especially if they are not exclusively tied to your project. There are flow-on effects if they are managing production and due to changes communication breaks down. Printing a brochure that is no longer relevant is not a fun thing to pay for. Collateral design prepared by a real estate agency marketing department is often boilerplate (based on existing templates that do as much to advertise the agency as the project). If that’s not what your project needs, then withdraw collateral design and coordination from their services.

            Collateral design and coordination are easily in-housed. It’s often as simple as hiring a young, energetic graphic designer on a full time or part time basis. Just having them at your disposal is invaluable to make swift changes. This is all the more important for a project where you expect a bit of marketing trial and error to get across the finish line.

Production

Production includes the output of collateral design and all the printing, delivery, and installation of everything from brochures to signage. This is almost always best left as outsourced. You can easily tender the work and it is usually a competitive environment — lots of printing companies. Production involves expensive equipment and, unless you plan to start a printing business, not conducive to in-housing on a particular project. However, project management and coordination of the print company can be easily in-housed. It might be the same graphic designer that you hired, a junior project manager or on simple projects left to the sales and leasing team to manage.

Marketing Budget Forensic Analysis

Of course, the ease of in-housing something versus outsourcing also depends on the cost. Ask “what is the cost differential of in-housing versus outsourcing?” This is where you take a microscope to the existing marketing budget.[2]

Look at every line item. Understand the deliverables behind every line item. Make sure all costs are broken down into line items. This is so you can accurately determine what each deliverable is currently costing you. And you can use that to compare the in-house cost of delivering that same item (staff costs multiplied by hours required) to outsourced fees. Often an external marketing agency will provide a broad-brush quote without breaking down the cost of individual elements. This makes it difficult to work out the true cost behind each item, or even exactly what items are going to be delivered. If several deliverables are agglomerated into the same category, then break them down. For example, rather than design services for marketing collateral, have it broken down into signage, adverts and brochures.

Take it further and extract out the per unit cost. For example, if the total advert design spend is $200,000 across 100 apartments, then you have a $2,000 per unit advert design spend. You can now adjust and compare costs independent of the size of the project. Note any cost that has a fixed component. For example, the $200,000 might represent $100,000 of design that is required regardless if you are selling one apartment or 100. The remaining $100,000 is a variable cost of $1,000 per unit. Consider volume pricing; for example, if there are less than 50 units, the variable cost per unit may be $1,200. Also ensure any admin and project management time is decoupled from deliverables and provided as an hourly or daily rate.

This specificity allows you to more accurately evaluate the costs the project was currently being charged or incurring. Now you can ask other suppliers (of comparable quality and creativity) to quote services on a per unit/per category basis plus itemize project management and administration. That will make it easier to identify pricing gaps where the current supplier has become laissez-faire with the account and over the years upped the charge-out rate. Or it allows you to substantiate that an existing supplier is close enough to market rates not to bother pursuing alternative suppliers further.

The larger the deficit gap between an outsourced marketing spend and alternative suppliers will indicate a higher potential to in-source. This is because this alternative supplier is still making a margin to do the work, and this is a margin you can grab whilst now knowing they must be able to hire staff and pay other costs to complete the task (once again quality and creativity controlled).

To figure out the per unit cost of doing this work in-house it’s a matter of working through these three questions:

1. How long does each deliverable take to complete?
2. How many units of that deliverable can be completed in a work day/week or month (whatever is most relevant)?
3. How much does that person cost in wages, salary, bonus, perks and other remuneration requirements for that period of time?

Dividing 3 by 2 gives us a raw per unit in-house cost. Then you need to address the following questions and cost accordingly:

• Do you need a specialist, or can a generalist do the job?
• Can you easily hire these people in your market? What if the first one quits?
• What ongoing training and systems will they require?
• How productive can they be at your organization, where they are just one of many different others, compared to a marketing agency where everyone lives this work?
• What administrative overhead will they attract? Do you have space? Can they work from home/alternative workspaces?
• Do you have enough work to keep them productively employed?
• Can their employment be tied to the duration of the project?
• Are there hidden deliverables that have not been accounted for? For example, what management resource will they require?
• Will there be a period where essentially you are paying for an employee concurrently with an outside supplier while the employee gets up to speed?

With costs determined you can finally compare in-housing versus outsourcing marketing. The decision requires a few final considerations:

• What is the actual proposed financial saving? Is it significant enough to make a change?
• Will production, lead times, delivery times or deadlines suffer?
• Will sorting out in-housing distract management from the greater task — is it a battle for another day?

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[1] You know, when properties literally sell themselves.

[2] If it doesn’t exist, then create a detailed breakdown of the existing marketing budget.

Download Xpect 2 Connect profile + references for your next recruitment
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Buy the book from Amazon: https://www.amazon.com/dp/1790590884?

Contact Xpect Property for outsourced or contractual project management services. http://www.xpectproperty.com

Acquisitions adjacent to your project site

Today we will look at the situation where you need to acquire additional land to make your current project work. For example, consider an adjacent site, where if you can amalgamate, your combined site will achieve a much more profitable outcome. At the government housing department, we had dozens of inner-city single family sites potentially suitable for redevelopment into terraces and apartments. However, many were oddly proportioned, and not well suited to maximizing site density. The sites were literally shaped by decades of the government selling, buying and redeveloping. Quite often there was a neighboring property or two that if acquired and amalgamated would ‘unlock’ the development. For example, a larger site could open-up planning rules allowing a higher density, or it might enable a suitably sized road access. Sometimes the neighbor to be acquired was even larger than the original site.

If you require acquisitions, then you can hire others to approach neighbors or you can do that in-house (maybe yourself). It is quite a delicate situation. If the current owner knows you are going to make more money by acquiring their site, then they may think this is a great opportunity to up the price. If they are not really interested in selling, they may just up their ‘price’ to ridiculous levels anyhow. With that in mind, in-housing that alerts neighbors to you being the interested party might not be such a good idea. Conversely, you (or one of your internal team) may be the best messenger to leave the neighbor in no uncertain terms: if you don’t take this deal now it won’t come around again. And because they don’t have to pay a commission they will get more for their site. This strategy works best if either you don’t need the land (nice but not necessary) or, if you are negotiating during your due-diligence period (where you can choose to walk away).

Outsourcing to a lawyer is a tactic sometimes used. The lawyer will charge an hourly fee rather than commission. However, from an existing landowner’s point of view, being approached by a lawyer is an instant alert that something is up. I have been approached myself and just say, I want to talk to the buyer direct please.

The other option is to use an external real estate agency for acquisitions. That may help keep your anonymity (if that is important) but also could put the potential vendor off (especially if they are approached by realtors all the time). You can never really control what the agent says either and they may not be prepared to hustle over the long term, compared to someone you have involved in-house.

Dealing with a commercial land owner is different from a residential home owner. The former may be more malleable to a business deal, like a joint venture or to share in the upside, so it’s the quality of the person being able to articulate this that’s important. However, they will also be more experienced at negotiating and quite quick to lawyer-up.

Therefore, cost is rarely a consideration in the acquisitions in-house versus outsource debate. Yes, you can save a commission but it’s more about who can solicit the best deal out of a potentially unwilling or over-optimistic vendor.

[In a future post we will look at finding new development site strategies. There are various tactics and processes to find new development sites – going through listings in a disciplined focused manner every day, door knocking & cold calling land owners, approaching other developers, utilising ones networks. And you can either do it yourself, hire someone inhouse or utilise independent contractors / buyers agents who do this for a living (sometimes they are newbie developers who can’t quite follow through and do the whole project themselves yet).]

Download Xpect 2 Connect profile + references for your next recruitment
http://aenspire.com/xpect/xpect2connect.pdf

Buy the book from Amazon: https://www.amazon.com/dp/1790590884?

Contact Xpect Property for outsourced or contractual project management services. http://www.xpectproperty.com

Deciding whether to in-house or outsource project management is a no brainer from my point of view. Just don’t outsource! The cost is irrelevant (although outsourcing is likely to be more expensive). This is where I stop even pretending to be objective. Really —don’t do it. I’ll tell you why.

We should probably take a step back and define what I call ‘project management’. The project manager is the person responsible for the coordination between the main building contractor, the civil contractor, the architect, the engineers, the cost estimators and all the other design and construction related consultants. Sometimes on complicated projects it may be just the design aspects — and that person might be called the design manager.

A project manager who also looks after marketing, sales and leasing, overall budgets and feasibilities and directly reports to the developer is usually called a development manager or a project director. Occasionally if there are multiple projects, they might be called a program director.  For the purposes of this discussion, whether it’s a project manager, design manager, development manager, project director or program director it all means ‘project management’ to me and I have the same narrow point of view: in-house it.

To explain my vehement position a little more, let me take you through a couple of very personal real-life examples. A little bit of background. I have hired, worked with and fired numerous project management companies on residential and commercial projects. I have also been hired to replace external project/development managers.

In one example, the key problem that existed with the external project management company was a lack of communication. The developer client, my employer, liked to challenge people on their work — both the what and how it was being done. Relaying bad news was not easy. For an external company, bringing the bad news was next to impossible. Their reporting glossed over important risks and the true financial situation had not been uncovered by the external project management company. They themselves had relied too much on the advice of their consultants. So poor communication, relying on advice at face value and a lack of uncovering the real situation brought together their demise. To be fair, that project management company did do some good work, but their job was made untenable by being on the outside.

Early on in my career, I was the developer’s representative for two commercial office projects. As an in-house developer rep, my job was to make sure the tenants, who had agreed to take on leasable space, got what they had signed up to. So I started out by attending project control group meetings ran by an external project management company. Over the next few months I learned that, essentially, all the project management company would do is push paper.[1] They would receive variation claims from the contractor, send them to me to approve, then write them up and send back to the contractor. I had to either make the decisions or get my boss to. Then the project management company carefully disclaimed who made the decisions in their reports. It got ridiculous; they couldn’t make a decision on anything. But we were paying them for expert decision-making advice! It was even a struggle to get them to query variations and contest them with the contractor. Look, not all project management companies are this complacent, but this was a big company in a busy market. They had juniors at the coal face who frankly had no right to be there. To improve the situation we asked for seniors to be present. The occasional visit from a senior, often a different person didn’t work out much better. At the time we persisted with the project management agreement, but in retrospect I would have removed them and done it myself. I practically was anyway.

Fast forward 15 years and, once again, I am attending a project control group meeting with (someone help me!) two project managers from different project management companies. There was one solely managing the civil construction and one managing the overall build, including the other project manager. This project was a failed 100-plus home development, already once resurrected and unfortunately failing again. Some of the situations were farcical.

One of the first issues arose when the project manager responsible for the overall build told me in no uncertain terms that he couldn’t get the other project manager (managing the civil works) to do what he needed. The project needed close civil and house build coordination. Their relationship (and therefore communication) with each other had broken down and neither took responsibility for decisions. Thus, I wound back the project manager’s role to just concentrate on the house build. As the newly appointed internal client-side development manager, I would sort out the coordination.

Then, on the house build, which was delayed, the project manager showed me a trail of paper without clear decisions regarding builders’ time extension requests that had caused further delays. He blamed lack of response from the developer (my boss). I investigated and found the project manager had failed to adequately describe the reasons for any time extension. The developer has not been presented with the right information to make the decision. And the project manager had not taken it upon themselves to make a recommendation nor issue a formal instruction. They said the usual things like “that’s not my role”. Thus, I immediately made it clear it was their role. As developer we would abide by the project managers’ decisions and we gave them our full trust and contractual commitment. That still didn’t work. To top it off, the project manager said they were spending more than the hourly time amount allotted to this job and needed more money. That’s the last thing you want to hear. A useless project manager is now going to cost you more money because they couldn’t budget for your project correctly! I instantly removed a whole heap of duties from the project manager.[2] They eventually quit, and we dealt with the builder direct. It was initially painful, as the project and the builder were haemorrhaging money, but necessary. Eventually it was worthwhile.

Later, on the civil infrastructure build, the meetings got really interesting. Every two weeks there was a new project manager! This civil project management company had massive staffing issues. I requested the that the director of the company send their most senior project manager[3] to attend all meetings to at least provide some consistency. That only partially helped the issue as the juniors kept coming and going. A consistent approach was never achieved. And then it got worse. When looking at a monthly progress claim from the civil contractor, my heart began to flutter. There had been a whole heap of urgent variations approved, by me on the spot, in the last few meetings. These were shown on the monthly progress claim but the cost to complete had not changed. Something seemed wrong. However, I wasn’t qualified to figure it out.[4] Weeks later, after relentlessly querying the bank’s quantity surveyor (who signed everything off before the bank would lend us the money each month to pay the contractor), the project management company, the civil contractor, applying financial forensics and compiling a report as big as this book, I had it sorted. On a $5 million civil construction contract we were $3 million over budget. It had accumulated over time and the developer and bank were none the wiser. I disclosed the situation and some arduous bank meetings ensued. It was grim.

In the end I had to retain the project management company as the specialist engineering they were also contracted for was too far through to replace them. But, to help clean up, I hired another project manager to look after that project manager. Yes, he was external, but in this situation, I told everyone that if he made a call, assume that I had said it. Basically, I absolved the project manager of all liability, just to get things double checked and done. It was a short-term fix. It worked, at a financial cost, to get this project completed without further financial deterioration.

On another development, the developer was sold the services of a senior project manager. When I arrived to take overall control, it was juniors doing the work. I had learned so much about gaining the final council signoff (not because I wanted to but because that project manager was also no good) that I essentially became this junior project manager’s teacher. They were fresh from overseas and their superiors did not have enough oversight. My words of warning: in a resource constrained market you might not be getting the service you are paying for and not know until it is too late.

And on yet another project I discovered the project manager had a conflict of interest. We were struggling to get our final council sign off, so I told them to pressure the local authority. To us we couldn’t settle millions of dollars’ worth of completed sections. Some had sunset dates[5] expiring very soon, meaning we were close to losing those sales altogether. The project manager though believed any pressure they applied would hurt their relationship with council and would affect their ability to get things done with their other clients. A developer typically does not care about the project manager’s other clients! I had to take on that part of the project manager’s role: influencing council to deliver our consents. I also had other projects that I did not want council turning a blind eye to should I pressure them too hard. So I just pressured them politely, but every single day for about two months. This simply demonstrates when project management is in-house, people naturally act more in the client’s (their employer’s) interest.

All those and I still have plenty more for another book. The fundamental reason why you shouldn’t outsource project management is that many developers, like me, are not typically good clients. Communicating risk is difficult and if something goes wrong the project manager is always running scared of being the scapegoat. That means external project managers are reluctant to make decisions. But it’s decisions that the developer is hiring them to do. Therefore, hiring internally (in-housing project management) at least breaks down those barriers. An employee should be better at full disclosure of the potential issues than an external project management company will be (as the employee has typically less chance of being replaced). Although this gets harder in larger organizations with hierarchical management levels.[6] Things change in the development world, and it’s easy for the developer to be thinking in one direction and the project manager moving off into another, especially at the design stage. Internalization improves control, understanding and is more elastic to change.

I might be persuaded otherwise on the occasion where a project that has failed needs specialized expertise that cannot be hired in-house. Then you might be forced to use an external project management company. The advice in this case is that you still manage them more closely than you would normally think necessary.

If you simply can’t directly employ project management, then an independent contractor who is working exclusively for you is the next best solution. So long as they have a direct line to the final decision makers, without contractual issues confusing the scene.

The more times I re-read and edit this chapter the more it sounds like there is a market gap for a decent project management company! The decision between in-housing or outsourcing project management is really a risk adjusted one. Err on the side of caution and what gives you maximum control with minimum risk. Double down on the caution if your project still has very curly aspects to navigate.

Henry Ford is often quoted as saying, “Nothing is particularly hard if you divide it into small jobs.” This is the key when deciding to bring functions inside or keep external. Understand what is currently being delivered in its entirety, price each individual piece, price the management of those pieces and consider the risks along the way. Then you can make an inhouse or outsource decision.

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[1] I’m sure they would say otherwise.

[2] There are always two sides to a story. If I was to generously oblige them with a defence, the construction contract wasn’t set up correctly in the first place, before they were engaged.

[3] I threatened it had to be the director, but he managed to twist out of that one.

[4] At least when I first encountered the problem. I was an expert by the end!

[5] A sunset date is a date in the contract which the developer commits to having a milestone complete, in this case, title to the land. If the sunset date is missed, then the purchaser has the option to cancel the contract — not particularly great in a declining market.

[6] Especially if there is a poor culture where upper management seeks to absolve themselves of responsibility.

Download Xpect 2 Connect profile + references for your next recruitment
http://aenspire.com/xpect/xpect2connect.pdf

Buy the book from Amazon: https://www.amazon.com/dp/1790590884?

Contact Xpect Property for outsourced or contractual project management services. http://www.xpectproperty.com

A number of developer clients over the last 12 months have asked me about bringing the sales team in-house. It’s an interesting topic, so here is my experience doing residential sales just about every way thought possible.

If you have to sell or lease anything as part of your development project then you will come across a little line item called commission. Depending where you are in the world this can run as high as 6% of gross sales or 15 to 20% of the first year’s rental. It might even be higher if you are selling via some sort of pooled investment scheme. This is a lot of money and is something to seriously consider in-housing to improve development project profit. However, savings can be eroded if slow sales or lower sale prices result. When you are looking at a sales commission of 3%, hiring internally and paying them 1% seems appealing. But the cost must be compared to the potential issues. Weigh up the factors that concern:

• Managing a sales and leasing team
• Commission
• Motivation
• Negotiation and hustling
• Attracting and keeping the right talent
• Sales back office
• Sales channels

Managing a Sales and Leasing Team

Managing a sales team can be challenging. You have one or more emotional, living on the seat of their pants type individuals who go all out for the mighty commission. They are a different breed to the standard salaried employee and that often comes with higher maintenance. If you in-house, then look to an old experienced head to keep themselves and the team together. There are also legal and professional association regulations, all sorts of liability issues and accompanying paperwork that need to be considered.

Commission

Although you are paying an agency say 4%, the actual agent may only personally make 1.5% to 2% of that commission. The rest goes to head office. Remember that also includes overheads like administration, marketing support, office space that internally you will need to provide in one form or the other. So the true saving is not a drop from 4% to 1%, but somewhere in between.

Motivation

If you in-house, it is much easier to match commission to motivation. You can offer bonuses to move certain types of product. Or you could have a graduated commission structure that suits your project (as opposed to the external agency).

Negotiation and Hustling

External real estate agents spend a lot of their time pitching and hustling for listings. They are really in the listing business, selling to vendors as much as to buyers. Internal sales agents don’t need to do this as they have the product provided for them to sell. External agents are constantly negotiating with vendors to get the listing and then to get the price down, and with sellers to get them interested and get the price up. Hot markets might mean more listings but there are also more competing real estate agents. Competition also sharpens an external agent.

Internal sales consultants are often given a price list and told to sell from it. In hot markets internal sales people become order takers. If the market stays buoyant for long enough internal sales consultants can lose their drive. The money is still coming in and they don’t have to do a lot beyond turning up to claim it. Yes, internal sales consultants get to negotiate with buyers, but that doesn’t create the same negotiating exposure that an external agent has. External agents are also often exposed to many different types of deals and sets of conditions, which they can draw from to seal future negotiations. Therefore a balanced internal team with plenty of practice in different (especially tough) markets is important, and so is the occasional injection of some fresh enthusiasm and external agency experience when hiring. Relevant training and a collaborative approach between internal sales consultants can also help keep everyone sharp.

Attracting and Keeping the Right Talent

You also don’t want to attract order takers, or lazy agents wishing for an easy ride. You want them to have all the soft sales skills to influence and close. To attract the right talent you may need to provide a pipeline of product that will be sold, otherwise you will lose them if they see potential sales drying up and look to move elsewhere. You may also have to provide training and licensing, and access to industry events just like external agencies do so they stay relevant, up to speed and motivated.

Sales Back Office

If you don’t have any sales agency expertise, then it may be wise sticking with an external sales agency that can provide back office sales support services for you (typically administration, like contract preparation as well as advertising and marketing). Although, if you are going to be producing all the marketing collateral using an external marketing agency, the back office will be less burdensome to in-house.

Sales Channels

For some development product types established agency sales channels are all important. For example, if you are developing an inner-city apartment project suited to offshore investors then using an external agency who specializes and has done this for many years would be sensible. An internalized sales team would have a lot to do to get up to speed, let alone get overseas. Unless, of course, you grabbed an entire experienced team and in-housed them.

For other products, sales channel relationships come down to the individual agent, who he or she knows in the marketplace and has their trust. For example, the industrial leasing broker who has been in the same area for 20 years and knows all the business owners (future lessees) like they are relatives.

One thing to question: are you gaining access to sales channels because of the individual or the real estate agency? If the individual, then you need to in-house that type of individual. If it’s the agency, then you need to create the resource and support they need to enter that channel. If that is too hard, then you should stick with the external agency.

In a flat or declining market, with an already failed project, and no prior experience in managing an internal sales team I suggest stick with external agents. If the market is hot, and the product practically sells itself, then in-housing might be preferable, especially if the in-house commission saving can instantly translate into a price reduction that speeds up sales velocity. But there is also a middle ground.

At the turn of the millennium, I was a manager developing terrace homes in up and coming city fringe suburbs. We had an established relationship with one agent (working for a boutique local real estate agency) who did all our selling. We wanted to bring him in-house. We already had a junior working in marketing who wanted to get into sales (to make the big commission!). Plus, we had spare administration capacity and for each project we would create the display suite and marketing using other specialists anyway. The agent didn’t want to jeopardize his long-term aspirations though. For us, he was the talented go-getter that we must have. The win-win resolution was we would set up our own real estate agency and he would be a director of that and responsible for sales. We had a pipeline of projects and the theory was he could grow the agency to sell on behalf of others as well. Financially he would get paid a commission percentage comparable to what he was personally earning at the external agency. That reduced our commission costs. If there were new sales listings to unrelated parties, then we would get a cut of that as well. This arrangement worked well for both us and him for a couple of years.[1]

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[1] Ultimately though the head agent moved cities and the team was not advanced enough to operate without that agent, so it was dissolved. Although we had taken enough out of the relationship that does highlight a potential problem of being tied too much to a single agent.

Download Xpect 2 Connect profile + references for your next recruitment
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Buy the book from Amazon: https://www.amazon.com/dp/1790590884?

Right now I am organizing a design build vertical construction retail project, in the middle of a design build civils project (yes they do exist!), and recently was looking at hiring subbies direct versus main contractors on a luxury apartment project. Prior to that I ran a vertically integrated development and construction company doing 200 to 400 mult-unit homes a year. AND over the last five months on behalf of construction company and developer clients have looked at hundreds of CV’s and have interviewed dozens of Project Managers, Site Managers, Commercial Managers, Quantity Surveyors – and all the key roles that comprise ‘construction’ – so have a few different perspectives on this subject.

BUT back in the day the first development company I worked for was a private developer who had started out (as many do) by renovating individual homes and flipping them. Although he was an ex-real estate agent he now acted as main contractor, directly employing subcontractors. As his company grew and he moved into multiple-dwelling new build terrace projects he hired a construction manager, then two of them, to do all the management of the building work. This is about the time I came aboard. The next project was a larger and more complicated apartment project and the decision was made to use an external main contractor. Over the next few years the projects became larger and more complex and there was no longer any work for in-house construction managers as everything was done externally.

This is a common pathway for a private developer — start out building yourself and then pass on construction to external main contractors. This is not the only journey though. Some developers go down the spec (as in speculative) builder route. Buying land or developed sections with a construction team in-house and then selling completed homes, shops, offices (or whatever development product). Others grow into large construction companies and then diversify into development companies, becoming a similar one-stop shop.

Once again, it does depend how you are currently set up. Are you a developer or a developer/builder? To explain the pros and cons of in-housing versus outsourcing construction, let’s take the example where you are a developer who intends to also adopt the main contractor role — i.e. in-housing construction.

Essentially you need to set up a construction business. The most important first step is to hire someone who has experience in running a construction business! The business will require systems and processes. At a minimum you will need to fill the roles of a quantity surveyor/cost estimator and a construction manager. Maybe they can be the same person if it’s a small project. Preferably their experience includes the type/scale/value of project you are taking on. You might need a site foreman (the hands-on site guy or gal) and an assistant or two.  That’s the minimum for a small project (like a 10-unit terrace home development). If it’s a large project you can be talking about dozens of directly employed staff. Significant back office financial management resource will also be required. The question becomes do you have the fortitude to go down this track?

To help you answer that you will need to weigh up the reward versus risk dynamics. And by dynamics, I mean the plethora of issues that can easily sink your new construction business and sink your project. You haven’t inherited this project because the previous contractor went broke, have you?

The main reward is obvious. You grab the contractor’s profit margin. This could be anywhere from 4% to 15% of the total construction cost. All the costs to run the construction business, including salaries and office expenses, are typically paid by you anyway. Whether it’s in-house cost as described above or passed on to you in a tender via the Preliminaries and General expense item. There might be a small percentage saving here as well if you in-house, albeit for a single project you will have initial set-up costs to first absorb.

Other benefits are control, flexibility and legal simplicity. I have grouped these together because they all act in unity. Using an external main contractor means a main construction contract. A construction contract creates an adversarial relationship. Changes and mistakes can be painful, expensive and litigious. If you build yourself, you don’t have to endure such a relationship. It’s not like you are going to charge yourself an exorbitant extension of time claim.

On the other hand, the risks of in-housing construction are numerous. Firstly, let’s look at the risks that are a function of company-wide experience (or lack thereof):

• Will the bank let you do it? Your funding line might be contingent on getting a fixed price contract from a reputable contractor, a performance bond and even a tripartite agreement.[1]
• Staff turnover. Project managers, construction managers and site foreman become recruitment target commodities when construction markets are buoyant. If you have created a construction business for a one-off project, then near the end of the project you need to make sure you retain your key staff. Six months out from completion they will be looking for their next gig.
• Pricing mistakes. In a new company one of the biggest risks is incorrectly pricing a job. The person doing the cost estimating is new. Subcontractor and supplier relationships are new — trust is yet to be established. It is more difficult to simply ring someone up and get an indicative price. With all the new business systems being set up, the business focus may not yet be on pricing accuracy. Further, to make it all work you might suffer from optimism bias.[2] This issue hit a construction company specifically set up to work on a development I was involved in by our joint venture finance partner.[3] They were optimistic on their pricing. It went downhill from day one, including miscalculating quantities and appointing site management without the requisite experience. Effectively the development made money, but the contractor went broke, on their first project.
• Subcontractor and supplier management. Beyond all the skills, systems and processes required to manage a construction project an established company has trusted enduring relationships, sometimes through thick and thin market conditions. History shows whose pricing you can trust, or who is variation hungry. You know who will maintain capacity for your job and who can return a quick but reliable subcontractor tender price. When the going gets tough during, you can appreciate who will stick it out, who will absorb price inflation and who will solve problems on their own. Similarly, the subcontractor also has trust in the main contractor, that they will get paid on time and change requests will be dealt with justly. When setting up a construction business from the start, none of this exists. Even if the people you hire say they bring all these subcontractor relationships with them, the very fact it is a new entity will dilute that trust. This can easily mean you will pay more for work and encounter more teething problems. Yet another area where a very experienced person at running a construction company is paramount — don’t promote someone into this role flippantly. Consider an old head on broad shoulders.
• Cashflow management. If you hire a main contractor, then you will have one construction related payment claim to process each month. You will have an estimated cashflow and know approximately what that amount should be. If you run construction management in-house then you take on 20 to 50 new suppliers, each with their own payment claim, complete with variations and mistakes. You must vet each claim when you pay them, and you might have to pay them out of sync with your funding. Software will help, but cashflow management is an important and difficult aspect of running construction.

Then there are the risks that a main contractor takes on that a developer can (try to) contractually opt out of. These present reasons to consider outsourcing construction if you already build in-house:

• Unfixed price. If you are a developer, typically you strive for a fixed price from your contractor. If you are the developer/contractor then you will wear any cost inflation, pricing mistakes, onsite measurement mistakes and the like. You might be able to fix some of the prices with your subcontractors down the line, but that is not always possible.
• Legislation. Building codes change. Changes need to be interpreted and implemented. This can happen mid-job. You may find that a new ruling means inspectors look at details differently. One of our contractors had this example, overnight, even with a building consent stamped, the inspector decided a bracing detail needed to be modified. It required a lot of rework (and dollars) from the main contractor (who did try and blame the engineer’s inspections), but at the end of the day it was the main contractor’s responsibility.
• Cost inflation. This deserves its own bullet point. When the market is busy costs can rise quite rapidly. If you are a developer with a fixed price contract, or a schedule that has fixed rates for each element, then you are contractually protected, for the entire duration of the contract. For the main contractor, suppliers may only hold pricing for a few months. Subcontractors, even if they have fixed the price, may be prepared to just walk away from their commitment and leave nothing worth you legally pursuing. Now, occasionally, it works the other way. For example, a main contractor acquaintance priced a government prison job and agreed to a fixed price. This was just before the global financial crisis. During the three-year project, their input costs from primarily unfixed subcontractors steadily reduced (there wasn’t a lot of other work on). The government price was fixed so the contractor’s margin increased.
• Liability. As the main contractor you are usually the first port of call when something goes wrong. At least when you are the developer only, you can (try to) blame the builder. Contractors have increasingly complex and stringent ‘health and safety’ obligations. There are also practical items to deal with like contract works insurance (in case construction catches on fire), employee safety and site security.

The other main reason why you might outsource construction is when you lack the experience in the type of project you are about to embark on. If you are an experienced residential home builder, but now grab the opportunity to save a commercial office project, the skill base in your existing team may not suit. Or the project may simply be too large for your in-house construction team.

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[1] A tripartite agreement provides the bank with step-in rights to finish the project if the contractor or developer fails. A good source of failed projects for you to pick up!

[2] You have embarked on setting up a construction business for this project after all, so it must work!

[3] Although the intention was to build other clients’ projects and grow a successful construction business.

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