Archive for May, 2015

A Real Fish Story

Posted May 31, 2015 By Fletcher Groves

As a consultant, you become accustomed to common themes:  same industry vertical;  same problems and issues;  if you are unimaginative or lazy, always the same solutions.  However, you occasionally have an opportunity to work on something different, and therein, lies the question for homebuilders.

Gro-Grouper black grouper image

Gro-Grouper, Inc. is a proposed marine aquaculture business formed with the intent of providing a fresh, high-quality marine finfish (black grouper) to upscale restaurants, fresh markets, and on-line retail customers, located anywhere within the United States.

If it ever receives funding, it would be the only production facility in the world that provides a renewable certified source of black grouper, raised in an environmentally-sound, ecologically-sustainable manner – fish that are spawned, raised, and processed in its own recirculating marine aquaculture tank facility, and packaged and distributed through a dependable, on-demand, next-day replenishment system.

In short, a superior version of a highly-valued product, delivered through a vastly superior supply chain.  From the Gro-Grouper business plan, here is the two-fold supply chain/business proposition:

  1. “With the recirculating aquaculture system (RAS) production plant it intends to build, Gro-Grouper achieves price breakeven at a price point for processed portions that is below the cost wholesalers pay at the dock for whole fish, and 60% below the equivalent cost wholesalers would bear at the dock for processed portions.”
  1. “Gro-Grouper will provide fresh, DNA-certified, authentic, black grouper, delivered on a next-day basis to upscale restaurant groups, fresh markets, and on-line retail customers, anywhere in North America.” When a fish is ordered by the restaurant, market, or customer, it is swimming;  one day later, it is delivered;  a black grouper harvested from the ocean is likely seven days old when it is delivered.

It is a $22 million all-equity investment, paid-in in annual stages over a four-year period, that produces annual Revenue, Gross Margin, Net Operating Income, Net Margin, and Return on Equity of $21.2 million, 65.0%, $12.6 million, 59.4%, and 57.4%, respectively.  The IRR calculated for a seven-year holding period is 53.2%;  the more conservative MIRR is 40.7%, using a 2% finance rate and a 4% reinvestment rate.

As planned, Gro-Grouper has tremendous business attributes:  sustainability;  environmentally friendly;  modularity, scalability;  enormously profitable;  outstanding investment yield;  breathtaking innovation and approach;  good for everything and everybody concerned;  a venture that exploits only the problem that created the opportunity.

In a single word, it is . . . compelling.

We helped direct the business case, and the resulting business plan in 2009-10.  The investment remains available;  Gro-Grouper may never get funded;  it might be too far ahead of its time.  But, it raises a question.

What would a project this avant-garde be in the homebuilding industry?

Unfortunately, it would never happen.

We would never see an idea this sweeping, this ambitious, emanating from homebuilding.  We would be told to nibble around the edges, told to focus on the symptom of the problem rather than its root cause, told to engineer incremental improvements that did not change anything about the underlying business model.  We would be told that the goal is industry best practices, we would be told that being no-worse-than-current-best will somehow create sustainable competitive separation.

The argument would be that homebuilding is different;  the presumption would be that homebuilding does not present an opportunity for that degree of change.

Well, yes, homebuilding is different.

It has its own parameters, its own requirements;  it cannot, for example, simply copy the Lean Production practices of the Toyota Production System or any other production method, and obtain the same results.

That, however, does not preclude change or tenure business-as-usual.

In terms of whether anything is going to change, I had a call this past week from Les Shaver, Deputy Editor of the Builder Group at Hanley Wood.  Les wanted to know if I thought there might be five or six lessons that builders had learned through the recession;  in his words, “five or six things they learned to never do again, and have made  dramatic adjustments to prevent from happening again.”.

I told him that I don’t think builders see it as a matter of lessons to be learned.

The analogy that seems to best fit the prevailing sense among builders would be something like the weather in Texas this past week.  For the most part, builders don’t have a victim mentality about this recession, at all;  however, it has been an event that they did not cause, were powerless to prevent, could not avoid, and were unable to end.

Lessons?  Knowing that it rains and river levels don’t always pay attention to flood plains?

Like everyone in Texas, builders more than anything just want a return to some sense of normal, a sense of predictability, a security born of familiarity.

While I was working on the Gro-Grouper project, I had an unrelated discussion with a C-level at a long-standing homebuilding client.  We were discussing different approaches, various changes.  He was aware of our involvement in Gro-Grouper, and he wondered whether that type of change was worth the fight.

I told him that homebuilding may not present the same degree of opportunity, but it would be worth the fight – the consideration of change, innovation, and alternative approaches would be worth the effort – if it was seen as a matter of survival.

I asked him if the current risk in homebuilding was commensurate with the reward.  I asked him if the goal of letting higher velocity act upon higher value – of producing higher benefit in excess of cost, higher margin achieved without price increases – would constitute sustainable competitive separation for his building company.

I asked him how the prospect of 10% Net Margins and a 40% leveraged ROA for his company, suggested by industry best practices (which it regarded as a stretch target in the best of times, and never achieved) appeared against setting a goal of, say, 15% Net Margins on static pricing and an increase in asset turn that resulted in a leveraged ROA of, say, 75%.

I told him if he didn’t like that prospect, then he should consider taking his cash, investing it in Gro-Grouper, where he could produce 60% Net Margins and a 57% Return on Equity (much higher if there was leverage involved) by growing fish.

Here is the point:  change, innovation, alternative approaches;  they are all around us.

Homebuilding does not exist in an economic vacuum.  It exists within a comparative context, one of choices.  It exists where the possibility of breakthroughs never dreamt dwarf a complacent satisfaction with – and a misplaced hope in a return to – industry best practices.

More on Gro-Grouper:  www.gro-grouper.com

 

Ten Years After

Posted May 26, 2015 By Fletcher Groves

(written in 2008, a decade after SAI began mapping business processes for its homebuilding clients, initially published on Escape from Averageness® in September 2009;  refreshed and republished here, under the same title)

EFA -Ten Years After

In the Spring of 1998, building upon its years of process improvement experience in other industries, SAI Consulting began helping homebuilding companies map their business processes – to document, analyze, and improve the workflow that produces value for their stakeholders.  In 2008, ten years after we started (slight nod to the Woodstock Generation), we felt it was worthwhile to reach back across the spectrum of those clients, to offer insight from our observations of their experiences and how their efforts have fared.

Here was our insight:

 

A COMMITMENT TO PROCESSES:  The difficulties, the sometimes indifferent results, and the “tailing-off” of continuous improvement and process maintenance efforts lead us to conclude that the clients who found themselves in that position had not been sufficiently committed to the role of processes as the primary mechanism for creating value for customers.

In almost any other industry, the central role of processes is indisputable.  We have long characterized the homebuilding industry as having a “deal-driven” mentality, a proclivity to non-standard, non-repetitive work, which it substitutes for process discipline.  Owners and management would rather spend their time deploying assets than leveraging their non-variable expenses (and thereby, becoming more productive).

It is a contra-process management mentality that manifests its presence when, no matter how many times they have done a particular sequence of tasks, they act as if they have never done it before.

 

THE MEANS TO AN END, NOT THE END IN ITSELF:  The clients who enjoyed the greatest success from their projects, and from their effort, were the ones who understood that processes were simply a means to an end;  business process improvement was only one of the important tools at their disposal in the pursuit of improved operating performance, and the resulting business outcomes. 

Mapping their processes was universally an eye-opening experience for these clients, but it was not that fact that made the difference.  It was what they did with what they saw.  Yes, they removed non-value added activities and value-killing characteristics from their processes, and they made the remaining value-adding activities flow more smoothly.  But, they also began to systematically solve core problems and manage constraints.

They went far beyond the processes that were their initial step.

 

LEADERSHIP AND COMMITMENT AT THE TOP:  The successful projects had the buy-in and commitment from owners and senior management, in stark contrast to the unsuccessful projects, in which owners and senior managers were either indifferent, acquiescent, or hostile.

Invariably, the feedback on the unsuccessful projects, received from the clients themselves, concluded that those projects were doomed from the outset by the attitudes and behavior of owners and management.  It was not uncommon to learn that there were agendas that had little to do with better processes and continuous improvement.  There was little appetite for – or expectation of – the change that would be necessary to achieve results.

In contrast, the most successful projects were resolutely lead by owners and managers who had a vision of what the work could accomplish and a determination to see that result achieved.  These leaders and their teams also demonstrated a willingness and capability to make the changes that were necessary.

 

LEARNING AS AN OUTCOME:  We have never had a homebuilding client that truely understood anything about processes, workflow, and process improvement going into the engagement.  For the most successful and far-reaching projects, clients treated learning as an outcome.

For those clients, it was not enough to simply document, analyze, and redesign processes and workflow.  In the most successful projects, clients took it upon themselves to learn about processes, production systems, and much more.

In the less successful projects, clients learned little about anything.

 

ADAPTING THE SOLUTION TO THE CONTEXT:  To the extent that clients entered their project with a preconceived notion of the direction of the solution that would come from mapping their processes, they often sacrificed a better, stronger set of improvements.

Homebuilding is not automobile manufacturing or healthcare.  It has a unique set of requirements that exist within their own context and parameters.  Solutions do not come in convenient, dehydrated packages, which simply requires the addition of water.  Blindly imposing solutions from different environments did not work.

The most successful engagements crafted the solution (including the processes, themselves) to match the specific requirements of the homebuilding industry.

 

In the years since 2008, we have come to understand that process management is only part of the workflow methodology in homebuilding;  project portfolio management is a very different animal.

The best description we can provide for the workflow involved in homebuilding is that it is project portfolio management with embedded and supporting processes;  it is the management of multiple, simultaneous projects (with task dependencies and resource contention, augmented with specific recurring work sequences.

 

The entire original report, including the process mapping methodology used, the survey itself, an analysis of the survey responses, the problems and issues, and the then-recent advances, improvements, and solutions in process management, is available upon request.

 

EFA La Brea Tar Pits

La Brea Tar Pits

“As RB Builders did it’s planning and budgeting for the then-upcoming year, 2008 looked to have market and economic conditions very similar to those in 2007.   In 2007, RB Builders produced Gross Margins of 22%, earning Gross Income of $11 million, down significantly from the 30%+ margins it enjoyed during the final, halcyon years of the Age of Homebuilder Entitlement®.

“In many ways, RB Builders was a product of that age, just another homebuilding company, satisfied with occasionally adopting other builders’ ‘best practices’, content to be good, no-better-but-no-worse than the other builders with whom it competed.  It was a homebuilding company with a middle-of-the-road approach to delivering the value homebuyers demanded.

“Although its owners knew what housing cycles were like, its management did not.  Terms like TEFRA and RTC were faint acronyms from a different era.  For the past 10 years, life had been good.  But, it was becoming a dangerous approach, because – as the saying went – ‘the only things in the middle of the road are yellow lines and dead armadillos’.

“It was becoming homebuilding no-man’s land.

“Locked into an operating model – into organizational structures, management systems, processes, cultures, and employees – that could not deliver extraordinary levels of distinctive value, the company found itself dumped into a teeming mass of homebuilders that looked-alike and sounded-alike.

“Now, indistinguishable from other builders, and unable to create any type of competitive advantage, RB Builders was trapped and sinking – like a modern-day dinosaur – into the tar pits of averageness.”

 

That was a short excerpt from the beginning of The Saga of RB Builders©.  

When I speak at IBS, Housing Leadership Summit, and other builder conferences, I sometimes ask my audience a question related to the condition of RB Builders:  “Does the world really need one more average homebuilding company?”®

For the longest time, I was convinced the resounding answer was, “Yes, of course.”.

As new home sales continue to rise, however slowly and erratically, it matters – it matters very much – what steps every homebuilding enterprise takes as it continues to emerge from the abyss, and how it deals with its current reality and whatever the future holds for it.  It matters, the answers it formulates to these questions:  What has to change?  How do you create sustainable competitive separation?  How do you move beyond operations and performance that was previously considered acceptable?  How do you escape from averageness?

That last question was the focus of this weblog, when I began writing it more than six years ago, in January 2009, at a point where we had already been in a housing depression for more than two years.  And, it was at that point, more than eight years ago, in early 2007, that I had written The Saga of RB Builders©, to help explain a new consulting approach – an approach which would offer a high-yield, value-driven, results-based alternative to conventional consulting, one which would result in a new client-consultant partnership, and one which would require significant changes in how client homebuilding companies paid performance compensation, how they made management decisions, and how they focused the improvement effort.

The Saga of RB Builders© traced the story of a homebuilding company, as it went through a five-year effort to improve operating performance and business outcomes in a changing and challenging housing market.  RB Builders and its characters were fictional, but the context in which they existed was not.  The story became a prequel to The Pipeline: A Picture of Homebuilding Production©, which was published in early 2013.

Written, as it were, in 2007 and looking back — presciently, as it turns out — from a point at the end of 2012, The Saga of RB Builders©, in effect, looked back to the future, and read like historical fiction.  Written, as it were, in 2007, The Saga of RB Builders© could not do justice to the length and depth of the hosing depression, the immense carnage to come, the extraordinary damage to margins and volumes, to Balance Sheets and careers, that would ensue.

Yet, if I were asked, as the author, what aspect with which I am most satisfied, it would be that the story seems unaffected by the passage of period of time — and, thus, The Saga of RB Builders© remains extraordinarily relevant.

 

Continuous Improvement: The Four Critical Dimensions

Posted May 10, 2015 By Fletcher Groves

(a version of this post, published in February 2009 and titled “The Antidote to Averageness”, was the second-ever post on EFA®;  this updated version of the original was recently published as “Four Live-or-Die Dimensions:  A Manifesto” in Builder online)

Almost twenty years ago, when SAI began its work helping home building companies understand and improve their business processes, I felt compelled to offer that work in the context of an overall improvement methodology.  So – I wrote a client narrative with the worst-ever title, 1998 Supplement to SHOULD-BE Reports, in which I characterized the effort to achieve and sustain improvements in business performance as involving “a certain chemistry – a complexity and a comprehensiveness”, noting that “improving performance tends to be hard, involved work.”

I went on to explain:  “It’s hard work because performance can’t be improved without doing things differently, and change is threatening;  it’s involved work because improving performance requires more than a simple, one-dimensional approach – it requires a continuous effort on more than one front.”

In retrospect, I think that improving business performance is hard, involved work, but it is not complex.  Even as I was noting complexity, I was also saying that “business performance improvement really boils down to getting the job done – viewing the issue, sustaining the effort, and getting the results – in three critical dimensions.”

Today, I describe the effort required as focused and comprehensive.  However, I would suggest that the three critical dimensions that I identified are as true and relevant today as they were almost 20 years ago.

Today, I would make it four dimensions.

Over the years, I have learned to reduce everything to its essence.  I would suggest that the essence of improving operating performance and business outcomes comes down to getting the job done in these four critical areas:  (1) developing a strategic and marketing discipline;  (2) having a clear perspective towards how value is created;  (3) creating a business context in which everything makes sense and generates the right sense of urgency;  and (4) developing a focus on managing operations and solving problems as a system.

Discipline:  A building company needs to build its operating model (operating processes, management systems, organizational structure, business culture) and design its entire product to deliver exceptional levels of the specific, distinctive value demanded by a narrow, demographically-specific, market-defined segment of home buyers.

It cannot be broad, uncontained, and good enough;  it needs to be narrow, limited, and exceptional.  We don’t see most builders having thought through this dimension with sufficient discipline.

Perspective:  A building company needs to organize its efforts around the manner in which it performs work, thereby finding better ways to provide the exceptional level of specific and distinctive value it was disciplined enough to create.

It is the most basic, most fundamental proposition in business:  the reason a business enterprise exists is to make money;  the way a business enterprise makes money is by creating value for its customers and other stakeholders;  that value is only delivered through the work that the business enterprise performs;  and, that work has to be performed in some manner of workflow.

In homebuilding, workflow is a blend of process management and project management:  project portfolio management with embedded and supporting processes;  regardless, it requires a horizontal perspective aligned with that workflow and the value that flows from it, as opposed to a vertical perspective aligned with functions, departments, and areas.

We can attest that most builders have not acquired the perspective required by this dimension.

Context:  A building company needs to become a company of business-people – a savvy, accountable, and motivated homebuilding team, comprised of savvy, accountable, and motivated teammates.  It must instruct its teammates on the real, actual numbers of the business, and do it in a way that makes sense to them;  it must give them the authority – and the responsibility – to act on that business knowledge;  and, it must give them a financial stake in the business outcome, one in which the financial payout is equitably-shared, frequently distributed, progressively-weighted, based on a single business outcome, and completely self-funding (resulting solely from targets achieved above a baseline).

It must create an underlying business logic that builds a sense of urgency towards a specific economic result.

We see little evidence of the context required by this dimension.

Focus:  A building company needs to infuse ”systems-thinking” into everything it does – everything it manages, everything it strives to improve.  A focused process of continuous improvement is deeply-rooted in an understanding of how systems work, and how they are improved;  it is root cause analysis directed at identifying the core problem and identifying limitation and constraint to the business outcome being sought.

It draws conclusions about order and priority, based on dependencies and cause-and-effect relationships.  It improves the performance of the system, not the pieces or parts of that system – not any of the parts, some of the parts, all of the parts independent of one another.  It identifies and resolves the problems, identifies and manages the constraints, that determine the performance of the entire system.

It does not look at the fact of current reality, and conclude that what it sees is a set of equally-important-yet-independent, related-yet-isolated measures.  It does not attempt to improve everything, everywhere, all at once;  it does not treat the symptoms of problems;  it does not treat everything as the cause of the problem.

A building company does not operate in an environment that provides unlimited capacity, resources, capital, or opportunities.  Its effort to improve business performance has to be prioritized and focused.  Some problems and opportunities need to wait on the resolution and exploitation of problems and opportunities that are more important.

Too often, we see just the opposite of the focus required by this dimension.

Four critical dimensions.

. . . a Strategic Discipline.

. . . a Horizontal Perspective.

. . . a Business Context.

. . . a Systems Focus.

 

Part V: Groves and Shinn: The Debate Over Costing

Posted May 2, 2015 By Fletcher Groves

(First published on Escape from Averageness® on April 16, 2012, titled “The Debate Over Costing”;  incorporated and republished here, every year, as the last in a five-part series.  This year’s series follows the publication of a version of Part I on January 26, 2015 in the online version of Big Builder.)

NAHB COA (capture) 

On the Builder discussion group on LinkedIn, I had this exchange with Shinn Consulting’s Emma Shinn, on whether costs on the NAHB Chart of Accounts Income Statement should be allocated according to the rules of absorption costing or the rules of variable costing.  The matter of how the NAHB Income Statement Income Statement allocates costs was the subject of an April 2009 post on Escape from Averageness®.  It was also the subject of a series of posts in January 2012, summarizing the results of a CFO survey we conducted on the NAHB Income Statement preceding the 2012 International Builders Show (IBS).

Here is the exchange, in its entirety:

Emma:  “I do respectfully disagree with your assessment of the NAHB Chart of Accounts – the purpose of the Chart is to provide a structure for collecting financial information in an organized and meaningful way.  It provides builders the capabilities to produce reports that are meaningful and that will guide them in their decision-making process.  In no way does it deter or hinder the contribution margin analysis you talk about.  In fact, it facilitates such analysis as it provides the classification of cost and expenses in a way that facilitates the identification of the variable and fixed components.  The contribution margin analysis does not deter from the analysis of the traditional income statement and the valuable information it provides to the builders.  The contribution margin analysis does provide an expanded view and I agree with you in that builders can benefit from also looking at the income statement from this point of view as it refines further the behavior of fixed vs. variable cost and expenses.  However, your assessment of the NAHB Chart of Account is unfounded and could not be farther away from the reality of what the purpose of the Chart is set up to be.”

Fletcher:  “Emma, you don’t have to take my word for it. As part of the survey, we asked CFOs for insight related to the structure of the NAHB Income Statement (i.e., line item accounts in series 300-900), as it relates to cost allocation (variable v. absorption) and management tools (breakeven, CVP, etc.).

“This an excerpt from one CFO:

“’I am intimately familiar with both the strengths and weaknesses of the NAHB Chart of Accounts.  It was a great tool for benchmarking our performance with other builders and to industry standards.  It was interesting to benchmark our company, but the statements produced utilizing the NAHB Chart of Accounts were of no use when it came to making pricing decisions.’

“The thoughtful examination of any managerial accounting or cost accounting textbook validates this CFO’s statements.”

Emma:  “Once again, I respectfully disagree with that assessment.  There is nothing in the chart of accounts that prevents a company from preparing a statement utilizing other analytical tools.  The income statement you call the ‘NAHB Income Statement’ is the standard income statement presented in any accounting principles class.  If you want to do further analysis for specific managerial considerations, that is always highly encouraged.  However, I again say the NAHB Chart of Accounts vs. the charts of accounts I normally encounter in my reviews of builders’ operations facilitates further analysis;  it does not preclude the analysis.

“Accounting, in my view, is primarily a management tool and we continue to encourage builders to view it as a very powerful means to help direct their management decisions.  That is not to take away the role accounting also plays in reporting results to third parties, such as lenders and investors.”

Fletcher:  “Emma, the NAHB COA Income Statement has a lot of attributes.  However, there is a difference between what something ‘does not deter or hinder’ or ‘does not preclude’, on the one hand, and what it positively, proactively enables, on the other.

“That may be all our differing views are about.  However, here are two of the specific points made on the matter, posted on SAI’s Escape from Averageness® weblog in April 2009:

“’The NAHB COA Income Statement treats Indirect Construction Cost as one of the costs that is deducted from Revenue to determine Gross Profit (the only difference between Gross Margin and Gross Profit is the inclusion of Indirect Construction Cost).  But – do Indirect Construction Costs vary according to Revenue?  Probably not.  For the most part, they are non-variable costs that will most likely be incurred regardless of the Revenue produced.

‘The NAHB COA Income Statement treats Selling Expenses (including Real Estate Commissions) as an Operating Expense, as a part of overhead.  Anything allocated to Selling Expense, therefore, should be a non-variable cost.  Is that the case?  No.  The bulk of Selling Expense is a variable cost.’

“Emma – some of the CFOs in the survey were very out-spoken on this issue, and the shortcomings of absorption costing are well-documented.”

 

(this issue is addressed at a Pipeline workshop™;  learn more here:  http://buildervelocity.com-workshops/)