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Suicide Squeeze Builders play hardball in their new push for concessions, and suppliers recast their outlook. Source: BIG BUILDER Magazine Form letters from builders started showing up in late June, even as suppliers and subcontractors rushed to keep up with materials and labor demand to finish the healthy backlog of homes ordered in the final throes of the heady, frenzied, multi-year home building market boom. The party was over. A hangover was setting in as home orders fell. And now builders fully expected each supplier to share in the pain and help with a cure or else, Builders wrote their trade partners. A tithe in the form of a 10 percent price cut would be acceptable; more would be better, but less was not an option. That's the tone and thrust of the letters, if not the actual wording, sent by big national builders, including Lennar Corp., K. Hovnanian Enterprises, and Technical Olympic USA (TOUSA) to its vendors. Beazer Homes USA's Indianapolis division similarly “asked for” a 5 percent reduction. SHARE THE PAINBecause builders already cut loose land options and employees, it's clear that they are not hesitating to axe uncooperative goods-and-services providers as well, although the letters refer to “partnerships” and “relationships” with suppliers. At whiplash speeds, many big builders are downshifting their purchasing departments from machines striving for greater capacity at any cost to cost-slashing, leaner, meaner organizations with no fear of flashing muscle and teeth to get their way. “As our customers continue to pay us a lower price for our homes, we must in turn pay you a lower price for your services,” writes Jonathan M. Jaffee, COO of Lennar, which is asking for at least 10 percent discounts and, in some markets, more. “Only those companies that participate in this request will be considered as our trade partners in the future.” Some builders announced they'd apply a 10 percent discount to their materials prices without even first securing a nod from suppliers to do so. “We are reaching out to you, our trade partner, to participate in a six-month temporary discount program,” writes Scott South, area president of the Cambridge Homes division of K. Hovnanian. “Beginning July 1, Cambridge will discount all new purchase orders by 10 percent. When we see an upward trend, the discount will be removed from purchase orders going forward. The amount of the discount restored will be proportionate to the volume of sales recognized during this six-month period.” Beazer's Indianapolis division says it is amending house bid contracts and asking suppliers to sign a revised pricing agreement. “If you are unable to reduce your pricing by 5 percent, we will be seeking alternative bids from new subcontractors or assigning your work to other vendors who have partnered with us to reduce costs,” writes Jay Arvin, vice president of purchasing. “Failure to partner with us will result in the loss of some or your entire work load with Beazer Homes.” Randall Bolt, supply manager for TOUSA's Texas-based Trophy Homes, asks for 10 percent off and then offers TOUSA's Trophy Home supply management team as a service for vendors to “identify cost reduction opportunities to help mitigate the adverse effects this price concession may have on your business.” OTHER TACTICSHowever, not every builder is taking as tough of an approach when dealing with suppliers in the slowing market. “There are certain customers who have been more aggressive about their demands and their threats,” says Michael Ulinski, vice president of sales and marketing for Masco Contractor Services. “There are some who behave as partners and some who behave as bullies. There's a wide range.” Ulinski understands where the urgency is coming from. “What you have is a fairly rapid turnaround in the market combined with a lot of managers who haven't experienced a downturn,” he says. “A lot of people have cut their teeth in nothing but a growing market, and they are saying, ‘What do we do? What do we do?'” That kind of fear can put making nice with suppliers low on the priority list. “Partnering [with suppliers] was important during the upturn,” says Steve McGee president of Unify International, a builder consulting company. “Then builders would say to subcontractors, ‘Please, if it's convenient for you to show up on my jobsite today, it would be nice.' Now some builders feel like they can pull out the stick and beat on them. Builders right now don't care about angering suppliers,” McGee says. “They are not thinking beyond, ‘I have got to get my 10 percent savings right now.' Whatever it takes to get those numbers to Wall Street, they are doing.” The pressure to squeeze concessions out of suppliers is a little less intense for some private builders, such as David Weekley Homes. Bill Justus, the company's vice president of supply chain services, says the company didn't make any unilateral cuts and, instead, asked for cuts on a market-by-market basis. It was a luxury, Justus concedes, many large public builders didn't have. “When you are a public builder and you are looking to the quarterly results, you are constantly banging on price, and what happens in that case is that not everyone is going to be cheapest all the time,” says Justus. “When one guy tends to be higher, I think the publics tend to make the adjustments quicker [to change suppliers].” There are costs associated with transitions including “truing” the two companies' processes. Plus, there's the possibility that a supplier bids too low for its own good. “If somebody is constantly losing money every time they deliver something to you, how inclined are they going to be to continue to deliver?” Justus asks. LOOK FOR REAL SAVINGSA better long-term strategy is to team up with trade partners to identify and help eliminate waste so the suppliers' margins aren't compromised, and the builder still maintains some good will, McGee suggests. “If you cut the price, but you don't eliminate the waste, either the contractor finds other corners to cut and you find out about them later or your contractor goes out of business,” McGee explains. Ulinski agrees that there may be some cost gains that can come from increasing efficiencies and keeping a closer watch on costs. “When the market's hot, you don't pay as much attention to nickels and dimes as you are busy pulling the dollars off the low hanging trees,” Ulinski says. “But the honest thing to say is that there are only so many inefficiencies that can be pulled out of the market.” Plus, it takes time to make improvements in systems. And big public builders don't have the luxury of that time given the swiftness of the market turn. “To try to talk about efficiencies in a market that is changing so fast is a bit disingenuous,” Ulinski says. “Given the way the market works, it doesn't allow for the more reasonable transitions that other industries have.” Builders might not get the cost reductions they need and want from suppliers either, Ulinski says. Prices of everything from raw materials and fuel to workmen's compensation and health care have increased in the past few years and many suppliers have not passed on the full effect to builders. NOBODY WINS“Price increases of 42 percent net average have occurred over the last three year period,” Ulinski says “The market couldn't absorb those price increases that quickly. Contracts limit price increases so we couldn't push those increases through. If you look at Masco's profitability, it has suffered three consecutive years despite the health of the marketplace. … It's not like it's a poker match and we are trying to stare each other down. There is really nothing left in the pocket. … They really don't like that answer.” Still, Ulinski says, some materials prices are falling, including lumber. And others may also fall as the home backlogs disappear and building slows. “I do think that there are some opportunities,” he says. “We do anticipate that there will be some softening in prices from our suppliers once demand falls. But what you have is people trying to do is force that ahead.” Builders may be more successful getting price cuts from labor. Recently D.R. Horton flexed its muscle in the Orlando labor market. “In Orlando, we visited our subcontractors about 30 days ago about our reduced start level, and we did not get their attention on the cost that we wanted,” Horton president and CEO Don Tomnitz said during the company's third quarter conference call. “And now, all of a sudden, they've come back to us … and they're saying ‘where are our starts?' and we said, ‘We don't need any starts, and we're not going to start any homes until we get our cost in line.'”
The Costs of Building a House Rising energy costs, coupled with meeting the overwhelming demand for materials to finish builder backlogs, has sent materials prices rising. Wood materials, such as lumber and sheathing are an exception. Slowing demand is likely to cause some softening in prices for some materials in the future
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