Critical Success Factors for a Construction Company

Lasker, G. C.
Purdue University
(email: glasker@purdue.edu)
Schuette, S.
Purdue University
(email: sschuette@purdue.edu)
Cox, R. F.
Purdue University
(email: rfcox@purdue.edu)
Dirk M. Beck
Purdue University
(email: dbeck@purdue.edu)

Abstract

Unlike the majority of industries, the construction industry is not only saturated with a multitude of
small young companies, but also has one of the highest failure rates of all industries in the United
States. Is there a relationship between the age and maturity of a company, or is the failure rate due to
industry specific internal factors? The purpose of this research is to to answer this question and
establish a foundation upon which start-up construction companies could build. After reviewing
related literature, specific factors analysis, and questionnaire survey, this foundation will consist of
establishing the critical factors that must be managed.

Keywords: construction industry, success, acquiring the work, building the work, tracking the work

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 1. Introduction

According to the U.S. Census Bureau, in 2007 more than 3 million construction firms existed, and of
that total, 75% of construction firms were composed of self-employed workers with no paid
employees, and only 1% had 100 or more employees (U.S. Census Bureau 2007). The majority of
those companies were only in business for less than five years; of the 850,029 construction
companies in 2004, only 649,602 were still in business in 2006, with a 23.6% failure rate (BizMiner
2006). The contractor failure rate of new start-up companies is even higher, at 34.4%, a rate that is
second only to the failure rate of food service companies (Dunn & Bradstreet 2007). The following
questions arise:What is the cause of the failure? Is there a relationship between the age and maturity
of a company that accounts for this failure rate? So the purpose of the research is trying to answer
this question -- to establish a list of critical success factors essential to construction business survival.
This paper analyzes several industry specific factors and attempts to establish a guideline for
emerging construction companies to follow.

2. Analysis

The construction business can be broken down into three major functions: 1.acquiring, the work, 2.
building the work, and 3. keeping track of the work. Acquiring the work consists of estimating,
pricing, bidding, marketing, and selling. Building the work consists of the project management, field
management, material procurement, and labor productivity. Keeping track is simply accounting,
financial management, administration, and tax reporting. And then the three functions will be
discussed separately as follows.

2.1. Acquiring the work

Acquiring the work consists of many daily activities. Depending on the size of company these
activities may be performed by one individual or several different people. The research was based on
the common fact that all activities can be broken down into three roles: project management, field
management, and administrative tasks. To simplify the results the list of activities was further
narrowed down to seven key activities or factors: planning, marketing, estimating, pricing, selling,
contracting, and bonding.

Planning involves several different aspects of the construction business. The way this was presented
to the participants was at any organization level plan that was formally implemented. It could include
competitive, strategic, growth, or succession planning. The assumption was made that if an
organization places an importance on any type of formal planning that it will also place the same
importance on all aspects of its business plan.

Analysis of Figure 1 indicates from all participants the importance of planning, including all the
aspects listed above regardless of either company size or length of time in business. A progression in

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its ranking as the company size increases is present due to the fact that the need for planning becomes
increasingly necessary as more people are involved in the everyday operations.

The marketing and selling aspects of a company designate the beginning stages of a project. This is
where a company establishes its identity and determines what kind of projects it pursues and the best
way to differentiate its services from those of another company. Figure 1 indicates that smaller to
mid-size companies put a larger emphasis on marketing than do larger companies. This can be
attributed to the establishment of a smaller company in a new market or niche. A larger company
may rely on public bid invitations and already established relationships to gain projects. Selling,
which is the second part, was ranked as being of average importance. This is due to the fact that the
construction industry is highly price competitive.

Pricing can be the sole basis on the selection of a firm. Estimating and pricing demonstrate little
relationship to the size of a company. While estimating accuracy is consistently ranked as an above
average concern across the board, one may see more of a variation in the importance of pricing. This
can be attributed to several factors, including the concept that as the size of a company grows, the
size of projects grow as well, and with larger projects come smaller profit margins.

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 29
Aquiring the Work Building the Work Tracking the Work
Material Management

Asset Management
Pre-Construction

Job Mobilzation

Administration

Tax Reporting
Documenting

Productivity

Legal Issues
Contracting

Accounting
Scheduling
Estimating
Marketing

Budgeting

Cash Flow
Closeout
Planning

Bonding

Quality
Pricing

Selling

Safety

Billing
A 7.00 5.00 9.00 9.00 5.00 5.00 1.00 5.00 8.00 9.00 4.00 6.00 9.00 6.00 8.00 5.00 6.00 9.00 6.00 7.00 9.00 5.00 8.00 5.00
B 7.00 8.00 7.00 8.00 6.00 6.00 1.00 5.00 6.00 8.00 5.00 8.00 8.00 6.00 9.00 8.00 6.00 8.00 4.00 8.00 8.00 6.00 8.00 7.00
C 8.00 8.00 7.00 7.00 5.00 5.00 3.00 6.00 7.00 9.00 6.00 7.00 9.00 3.00 9.00 5.00 7.00 7.00 8.00 6.00 9.00 7.00 9.00 7.00
5-10 Employees

D 8.00 8.00 9.00 7.00 5.00 4.00 6.00 5.00 8.00 9.00 6.00 5.00 8.00 8.00 9.00 7.00 8.00 7.00 5.00 7.00 9.00 6.00 9.00 8.00
E 6.00 7.00 9.00 7.00 4.00 6.00 5.00 7.00 8.00 7.00 5.00 5.00 9.00 9.00 8.00 5.00 6.00 8.00 6.00 7.00 9.00 5.00 7.00 7.00
F 6.00 7.00 9.00 6.00 6.00 5.00 5.00 5.00 5.00 8.00 6.00 6.00 9.00 6.00 8.00 6.00 5.00 9.00 7.00 9.00 9.00 5.00 8.00 6.00
Average 7.00 7.17 8.33 7.33 5.17 5.17 3.50 5.50 7.00 8.33 5.33 6.17 8.67 6.33 8.50 6.00 6.33 8.00 6.00 7.33 8.83 5.67 8.17 6.67
G 7.00 9.00 9.00 7.00 7.00 7.00 5.00 8.00 8.00 9.00 9.00 8.00 7.00 7.00 8.00 7.00 9.00 9.00 5.00 7.00 8.00 5.00 9.00 9.00
H 6.00 7.00 8.00 7.00 4.00 6.00 6.00 8.00 8.00 9.00 7.00 4.00 8.00 8.00 9.00 8.00 8.00 9.00 6.00 8.00 9.00 5.00 8.00 7.00
11-50 Employees

I 9.00 8.00 9.00 7.00 8.00 7.00 8.00 7.00 8.00 8.00 8.00 9.00 9.00 5.00 8.00 6.00 7.00 8.00 5.00 9.00 8.00 6.00 7.00 6.00
J 8.00 8.00 9.00 6.00 5.00 8.00 8.00 8.00 8.00 7.00 6.00 8.00 9.00 6.00 9.00 8.00 8.00 7.00 7.00 8.00 9.00 7.00 8.00 6.00
K 7.00 8.00 8.00 8.00 9.00 6.00 6.00 7.00 7.00 7.00 5.00 7.00 8.00 9.00 9.00 7.00 9.00 6.00 8.00 6.00 9.00 6.00 9.00 8.00
L 9.00 6.00 8.00 7.00 6.00 5.00 7.00 7.00 8.00 9.00 7.00 9.00 7.00 9.00 9.00 8.00 9.00 9.00 4.00 5.00 9.00 6.00 9.00 7.00
Average 7.67 7.67 8.50 7.00 6.50 6.50 6.67 7.50 7.83 8.17 7.00 7.50 8.00 7.33 8.67 7.33 8.33 8.00 5.83 7.17 8.67 5.83 8.33 7.17
M 9.00 7.00 9.00 9.00 8.00 7.00 7.00 8.00 8.00 9.00 7.00 9.00 7.00 7.00 9.00 7.00 8.00 9.00 6.00 6.00 8.00 8.00 9.00 9.00

Figure 1: Survey Results

N 8.00 6.00 8.00 8.00 6.00 8.00 8.00 8.00 8.00 8.00 8.00 8.00 8.00 6.00 7.00 8.00 9.00 8.00 7.00 6.00 9.00 6.00 9.00 7.00
O 9.00 6.00 8.00 8.00 7.00 9.00 9.00 7.00 7.00 9.00 9.00 7.00 8.00 8.00 9.00 6.00 9.00 7.00 5.00 7.00 9.00 8.00 8.00 8.00
50+ Employees
P 8.00 6.00 8.00 7.00 7.00 9.00 9.00 8.00 8.00 7.00 8.00 8.00 7.00 7.00 8.00 9.00 8.00 8.00 5.00 5.00 9.00 6.00 7.00 9.00
Q 8.00 7.00 8.00 9.00 8.00 7.00 6.00 8.00 8.00 9.00 7.00 8.00 8.00 6.00 9.00 7.00 8.00 9.00 5.00 6.00 9.00 8.00 8.00 6.00
R 9.00 8.00 8.00 9.00 6.00 8.00 8.00 9.00 7.00 8.00 9.00 9.00 8.00 7.00 9.00 8.00 7.00 8.00 6.00 6.00 9.00 7.00 9.00 8.00
Average 8.50 6.67 8.17 8.33 7.00 8.00 7.83 8.00 7.67 8.33 8.00 8.17 7.67 6.83 8.50 7.50 8.17 8.17 5.67 6.00 8.83 7.17 8.33 7.83
Average 7.72 7.17 8.33 7.56 6.22 6.56 6.00 7.00 7.50 8.28 6.78 7.28 8.11 6.83 8.56 6.94 7.61 8.06 5.83 6.83 8.78 6.22 8.28 7.22
Contracting and contracting terms were consistently ranked as being of above average importance to
all companies, with the leading cause being erroneous contract terms. Larger companies ranked it
slightly higher. The most common explanation was unfair payment and retainage terms and penalty
clauses. With larger, longer products this can be especially critical. Bonding ranks lower with smaller
companies primarily due to the types of projects. As a company grows, so does the importance of
their bonding capacity.

2.2. Building the work

Like acquiring the work, this function can consist of countless daily activities, but for the purpose
of this study all said activities have been summarized into ten separate areas: pre-construction
planning, budgeting, scheduling, job mobilization, documenting, quality, productivity, safety,
material management, and project closeout. Although these activities can be further broken down into
the concepts of project management and field management, this study has combined these two
aspects and asked the participants to combine both when ranking the different activities.

Figure 1 indicates that the activities involved with building the work have a natural progression
directly related to the size of the company and size of the project. The highest ranking activities were
budgeting, scheduling, quality and safety. It was also determined that as a company grows and
continues in business, more emphasis is placed on the budgeting and scheduling, while smaller
companies place more emphasis on the quality. Safety consistently ranked highly regardless of the
size of a company. This factor demonstrates the importance of safety not only for the well being of
employees, but also for the direct effect on cost and time associated with an accident, both short and
long term.

Pre-construction, job mobilization, material management, and project close-out all ranked more
highly among larger companies. These factors are more important to larger companies due to the size
and complexity of a project. Documenting and productivity were both ranked as moderate concerns.

2.3. Tracking the work

The tracking the work portion of the study consists of accounting, administration duties, tax
reporting, cash management, asset management, billing, and legal issues.

3. Methodology and logical analytic process

Based on the literature review and analysis a questionnaire has been developed and presented via
interview to executive-level individuals who were responsible for organization-level concerns.
Questions were categorized according to the three major functions while respondents were asked to
rank the importance of each item using a 9 point scale. In addition to asking the interview participants
to rank the various activities, they were also asked to recommend strategies for success for new firms

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in respect to the corresponding categories. Based on analysis of their responses and the data gathered
from questionnaires, nine activity were listed as the main factor affecting the success of a
construction company. While any size organization can use the following information to establish
sound guidelines for their operations, it will be of most benefit for smaller to mid-size companies just
starting out.

4. Sample

Companies were divided into three categories based on their size: 50+, 11-50, and 1-10 see figure 1.
It was decided that the number of employees would be used as the classification. This is due to the
fact that the number of direct employees usually corresponds to the size and amount of work
completed.

5. Critical success factors

The following nine activities were ranked as the highest concerns of professionals in executive level
positions. The following list breaks each down and briefly summarizes the findings. Especially, it is
in this last activity where several construction companies typically fail (Stevens 2007).

5.1. Acquiring the work

Figure 2 graphs the three highest ranked activities in this section which are planning, estimating, and
pricing. The increase in the ranking of planning with the size of the company can be attributed to the
complexity of projects and to the varied people involved in the operations. Smaller to midsize
companies ranked estimating higher due to less room for error with smaller projects. Pricing was
ranked higher by larger companies as said companies found it increasingly important to cover larger
overhead with tighter profit margins.

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Figure 2: Acquisition Activity Ranked Per Company Size

5.1.1. Planning

The importance of planning was ranked highly by all participants. The questionnaire defined
planning as any formal organization level plan, versus a project level plan, which could include a
growth plan, strategic plan, or any combination of formal planning. The responses from the
questionnaire and information gathered from the literature review and interviews were used to
establish a guideline for a formal business plan. For new companies just starting out it is critical to
their success to establish a plan and constantly review and modify the same if necessary. A good
business plan should consist of the following: executive summary, company description, target
market, competition, marketing and sales plan, operations, management structure, future development
or growth and financials. Sometimes an organization becomes so focused on planning their actual
work,that members of the same company can forget to plan for structure and operation of the
organization.

5.1.2. Estimating

The words estimating and bidding are frequently used interchangeably in the construction industry,
especially by smaller, less experienced owners. It is necessary for a company to understand the
difference between the two. Estimating is defined as determining the companys direct costs and
allocating corporate overhead to the job. It is important to know just what a companys overhead
costs are. Intuition and judgment should not be part of an estimate as they are in pricing. Rather,
estimates should be based on hard numbers and job cost records. For smaller companies with limited
resources, and historical cost data, this area leaves a huge vulnerability for failure. Ways to reduce
this risk are to stay within a companys area of expertise. If growing into new markets create a plan
and consult with other professionals with experience. Guess work should be eliminated from
estimates. Estimating is about reducing risks and eliminating as many variables as possible. For
smaller companies, care must be taken when the same person is responsible for both estimating and
pricing and the two activities should be seen as separate.

5.1.3. Pricing

Pricing consists of determining what a company believes its services are worth. Pricing is based both
on competitor information and on company needs. The construction business is full of risks;
therefore, to justify these risks and to ensure the long term success of an organization, a reasonable
profit must be obtained. When pricing work in the construction industry, research has revealed
several factors which a company must take into consideration; these include: the difficulty of
construction, market rates, length of construction, labor content, location, and current backlog. By
having both accurate financial data and being able to interpret the same, management is allowed to

32
make an educated decision when deciding the desired profit on a job as opposed to needing the
work. A company needs to be aware of its hit rate and constantly monitor its success of winning in a
competitive bid situation. If a hit rate is too high, that could mean that the pricing is too low; the
opposite may result for pricing, if the hit rate is too low.

5.2. Building the work

Figure 4 illustrates how safety can be consistently ranked higher regardless of the size of the
company. It is one of the few things that can have such a big impact on cost, schedule, and quality.
Quality can be seen to decrease in ranking with the growing size of a company, a factor which is
misleading, because quality is often assumed for larger companies and projects. This is due to better
defined scopes of work and contracts. Scheduling ranked high for all companies.

Figure 3: Building Activity Ranked Per Company Size

5.2.1. Scheduling

Scheduling has to be a combined effort between both project management and field management.
Finding the right balance between cost, time, and quality is critical to the success of any construction
company. It is essential to identify any material procurement issues early on to avoid scheduling
delays. The key to successful scheduling is the ability to properly forecast available resources with
expected demands. It is necessary to be diligent in updating the schedules and in monitoring the
progress as compared to the initial baseline.

5.2.2. Quality

Quality has to be non-negotiable. It plays an important part in establishing a companys identity. As

stated above, quality is one of the three factors that must be taken into consideration when balancing

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it with cost and time. Establishing the expectation for quality of work is critical when starting out. In
a very visual industry such as construction, it can be the greatest differentiating factor between
companies.

5.2.3. Safety

Safety is one of the few factors that can have such a huge impact on all aspects of an organization. It
affects everything from cost (both direct and indirect), schedule, and quality. Two of the largest
expenses for a contractor are workers compensation and general liability insurance, both of which
are directly related to a companies safety record. A companies experience modification rating has
long term effects on a companies profitability, and a credit rating of less than one is that which a
company should strive to achieve. Each company that participated in the research identified having a
formal safety plan as a leading factor in a companys overall safety and rating.

5.3. Tracking the work

The highest average score out of all 24 factors was located in this portion of the study, in cash
management. This was the only factor where over half of every participant of the study rated as a
nine. Other factors that consistently scored high were billing and accounting. Legal issues and asset
management were more of a concern for larger companies, while administration duties and tax
reporting were more of an issue for smaller companies.

Figure 5 summarizes the three highest ranked factors in tracking the work: accounting, cash
management, and billing. Accounting was consistently ranked high because of the essential need to
understand the unique financial aspects of the construction industry. Cash flow ranked the highest out
of all activities for all companies, and billing ranked highly across the board due to its effect on cash
management.

Figure 4: Tracking Activity Ranked Per Company Size

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 5.3.1. Accounting

It is important to understand the unique financial aspects of the construction industry. The smaller
companies that participated in the study recommended that the key to financial success is to use an
accountant familiar with the construction industry; of equal importance, it was understood that the
company owner/operator should be very involved with the finances. In order to best understand the
primary goals of accounting, the owner/operator must have useful data regarding the following:

Track job costs

Estimate new projects
Analyze cash flow
Insurance audits
Tax returns
By developing an understanding of business finances, the owner/operator can then avoid the mistake
of concentrating simply on the current bank balance and will be better able to evaluate the companys
overall financial performance and to make sound decisions based on the future instead of immediate
needs.

5.3.2. Cash management

This was ranked as the highest single cause of failure. An organizations ability to manage its cash,
both with initial capitalization and ongoing operations has been regarded as crucial according to
study data.

Initial capitalization is crucial to the success of a business. According to the United States Small
Business Administration, the lack of adequate working capital is one of the top causes of small
business failures. An individual should have at least enough cash reserves to cover oneself and any
initial employees for several months, including initial operating capital for advertising, insurance,
licensing, office expense, and enough reserves to cover labor and material prior to billings.
Forecasting initial operating expenses can be quite difficult if a good financial plan has not been
established. By using an established business plan -- in particular knowing the volume necessary to
sustain goals for the year -- will determine the new business owners initial cash reserves as they are
needed.

Once it is established and the company has sustained a regular cash flow, managing the operating
cash requires a developed understanding of the relationship between a projects cash flow during
duration of each project; moreover, minimizing the lag between peaks is especially important. To do
this a company must maximize and accelerate cash inflow, control cash outflow, and accurately
forecast cash needs. Through the responses from the participants in conjunction with the literature
review, the following suggestions have been made to permit the accomplishment of this:

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1. Accelerate and maximize cash inflow

Negotiate favorable payment terms

Establish and approve the schedule of values early on and submit your first request soon after
Manage billings, receivables, and change orders diligently
Manage the project schedule, as taking longer than the scheduled time is bad for effective
cash flow
Manage punch list items to minimize delays on retain

2. Control cash outflow

Use cash-flow projections to time large expenses

Utilize payment terms; dont pay too early, but make sure to take advantage of discounts
Identify cost savings early on in a project

3. Forecast cash needs

Identify cash surpluses and deficits early on and adjust accordingly

5.3.3. Billing

Timely billing and managing account receivables are both aspects that can affect an organizations
cash flow. The ultimate goal of managing a companys billing is to limit the funding of projects from
its own cash reserves and transferring the funding to the clients. Companies need to make sure they
are getting paid in a timely manner; in order to be able to guarantee this, all billing must be made in a
timely manner.

References
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BizMiner (2006) Construction Industry Specific Statistics.

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Dun & Bradstreet (2007) Report of Contractor Failures.

Ganaway N (1996) Construction Business Management. Massachusetts: R S Means.

Gerber M (2003) The E Myth Contractor, Why Most Contractors Business Don't Work and What to
Do About It, New York: HarperCollins.

Langford D and Male S (2001) Strategic Management in Construction, 2nd ed., Oxford, UK:
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Schleifer T (1990) Construction Contractors Survival Guide, New York: John Wiley & Sons.

Stevens M (2007) Managing a Construction Firm on Just 24 Hours a Day, New York: McGraw Hill.

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