Archive for April, 2010

"Get busy living, or get busy dying"

Posted April 19, 2010 By Fletcher Groves

“I guess it comes down to a simple choice. Get busy living. Or, get busy dying.”

If his only object was to exist, or to survive, I imagine that Andy Dufresne would have become like everyone else in Shawshank, and settled for whatever business-as-usual constitutes in that setting. As it was, it took him twenty years to dig out of prison for a crime he did not commit, but Andy Dufresne did not choose to merely exist.

Get busy living, or get busy dying.

My dad once told me, “Son, you see life the way you wish it was”. I told him, “No, you taught me to see life the way I choose to make it”.

This is the fourth year of this housing recession, one that has surprised even us veterans of many housing recessions with its depth, its duration, and a complexity born of excessive intervention into markets and monetary/fiscal policy. Maybe it will be the last year. Maybe not. Either way, as distracting and difficult a time as right now is, and regardless of how robust or tepid the eventual recovery turns out to be, it is time for builders to decide how they will choose to make the world of homebuilding when this is finally over.

If you think this recession has been a test of survival, wait until you see the recovery.

Ten years ago, I wrote an article for Professional Builder, titled “The Road That Lies Ahead”. It was one of a series of articles on the findings of Reference Point, our periodic survey of senior executives regarding management practices in the homebuilding industry.

In part, I said this:

“LIFE ON THE SERENGHETI: It seems obvious to us that the demand for housing in the next five to seven years cannot support the aggregate level of anticipated growth if three-fourths of these builders aim to significantly increase the size of their current operations, even if we factor in a continuation of the current level of acquisition and merger activity and reason that our group of builders might be a particularly aggressive strain.

“On the other hand, we do not see any reason to doubt their intent. A couple of scenarios come to mind. One possibility is that some of the demand is transferred by acquisition or merger, but, beyond that, everyone settles for less growth than they would like – too many lions, not enough zebras, everyone still hungry, but no one starving.

“The other possibility is that some of these builders might actually develop (or acquire) the capabilities that will allow them to redefine operating and financial performance as we know it. In that case, the current level of industry consolidation begins to pale – and we will be looking at a group of bigger, stronger, faster lions, capable of eating zebras to their hearts’ content . . . “

“. . . There is a clear and simple message in all of this: The road ahead is difficult and uncertain, but there is opportunity along with the danger. Do not be complacent. Do not follow the crowd. Do not waste your time and effort on things that do not create value.”

Fast-forward, from 2000 to 2010. The only effect this recession has had on those plans is to temporarily suspend them. Those plans will not go away, unless homebuilding itself goes away. In light of that, how will you choose to make your world? How will you create a sustainable way forward in this industry?

Builders have choices about how they move forward from this debacle, but not all of the choices available to them meet the criteria of being sustainable. From the standpoint of what constitutes sustainable competitiveness, I do not think business-as-usual is going to cut it any longer. I do not think settling for being different-but-no-better-no-better-but-no-worse than the competition is going to cut it any longer. I do not think that settling for the adoption of “industry best practices”, is going to cut it any longer, either.

There is, after all, such a thing as the tyranny of averageness. At the end of the day, average is still just that. Average. No matter how you cut it, even if it is occurring on a higher plain. The question is this: Does the world really need any average homebuilding companies?

Get busy living, or get busy dying.

In good times, the mental model that has sustained the homebuilding industry has been what you would call “More-for-More”: More revenue, more income, along with more of everything else – more capacity, more investment (land, models, work-in-process), more cash. In challenging times, the mental model defaults to “Less-for-Less”: Less revenue, less income, as a result of less overhead, less capacity, a slower burn rate on cash, and (maybe) less investment.

A more-for-more proposition is always about size and growth; a less-for-less proposition is always about cutting costs.

Those are the mental models of business-as-usual.

Neither of these approaches are sufficient to create the type of sustainable competitive separation that will be required going forward. That is because, neither of these approaches has anything to do with the velocity side of economic return, or has anything to do with higher productivity. The mental models of business-as-usual have everything to do with size, cost-cutting, and competing on the margin side of economic return.

The way to create true, sustainable competitive separation is by doing the difficult work on the velocity side of ROA. This is a different mental model. Call it “More-for-Less”, or “More-with-Less”: More revenue, more income, more throughput, with less inventory, less overhead, a zero required level of working capital.

“More-for-Less”. The vast majority of homebuilding enterprises will not let their shadows darken that doorway. It is too hard, it requires too much discipline. Most builders would prefer to compete on the margin side of ROA, partly because it is easier, and partly because it just fits the deal-driven, product-at-the-cost-of-process mentality of the industry. Some builders are better at the margin game than others, but almost any builder finds that it is easier to compete on the margin side of ROA.

Case in point. Lean Homebuilding. Visionary homebuilding companies, in search of the right improvement religion, attempt to adapt the principles of TPS and Lean Thinking to the specific requirements faced by the residential construction industry. Fine, as far as it goes; it needed to happen. Unfortunately, they tend to use Lean only to solve quality problems and eliminate the waste caused by defects. Lean benefits margin, but its focus eschews productivity.

If a homebuilding enterprise will not go after higher productivity – if it will not tackle the velocity side of Return on Assets – it is left with only the margin side of ROA, left only with higher margins as a way to carve out sustainable competitive advantage. Left with the same approach as virtually every other homebuilder.

Yes. Margins are important. Yes, value needs to be extracted from direct, variable costs wherever possible, with better houses (better designs, better quality, lower costs, fewer defects), more desirable and affordable communities, and – somewhere along the way – a better homebuyer experience and a business-sensible environmental approach.

But, margin is table stakes. It is the easiest of the conditions that are necessary to generate the type of economic return that creates sustainable competitive separation. Margin is too easy to replicate, the advantage in it is too easy to overcome. Margin is fleeting.

Margins are necessary, but they are not sufficient.

There is more to the equation for measuring economic return than simply maximizing how much money a building company can make on each house it builds; Return on Assets is also a function of how many homes can be built for the investment a builder makes in its production capacity, every operating period, in order to build homes.

Return on Sales x Asset Turn . . . Margin x Velocity.

Call it what you want, but the cost of production capacity is all the money a builder spends each and every year in indirect, non-variable cost. Money that will be spent, regardless of the throughput that it generates, and much of which will be wasted. Wasted as a result of unstable schedules with hidden safety in every task, wasted as a result of too much inventory, wasted as a result of uneven sales, starts, and closings, and wasted as a result of the failure to manage a homebuilding company for what it truly is – the management of a portfolio of projects with dependent and shared, limited outside resources.

Not convinced? Try to calculate a breakeven point from margin alone.

The offered mandate is higher productivity. The offered mandate is to find ways to do more for less, to do more with less. The offered mandate is to exploit the velocity side of ROA. The offered mandate is to eliminate the need for working capital to support building operations.

Particularly relevant if you are not a big public builder, for whom better access to cash and financing is supposedly such an overwhelming competitive advantage. Like any homebuilder, the publics will readily go after the margin side of ROA. However, with margin as table stakes, velocity becomes the antidote, what you do if you are a privately-held builder, what you do if you are not positioned for cash and financing like a publicly-held builder.

As I have said on earlier occasions, elsewhere in this column, access to cash and financing only creates financial capacity, it does not create production capacity that gets utilized or make the publicly-capitalized builders that have better access to it more productive. Unable, or unwilling, to compete on the velocity side of ROA, creating competitive separation for a public builder is reduced to geographic expansion, a quest for market share, and competing on margin. And, using their advantage of cash and better access to financing.

Because that is all they have.

And, unfortunately, that will be enough, if smaller, privately-held builders choose to compete head-to-head with larger, publicly-held builders on those terms.

I guess it comes down to a simple choice. Get busy living, or get busy dying.