As we come to the close of another year I find it appropriate to take stock of the year and a deeper look into 2015 and what it might hold for restoration professionals. I will examine the current trends with an eye to the future. 2014 was a year of a continued rebound in the industry. We are not far removed from what appeared to be a new normal situation of lower claims volume, temperate weather, higher deductible amounts, and increased competition. It appears as though we are departing from the relatively short period with low claim volume and into a period perhaps with some consistency. Let’s examine some of the potential trends that have developed over the past year and what they might do in the near future.
In my travels through North America I have noticed restoration and construction wages are increasing, and in some marketplaces quite dramatically. On one of my trips I saw an article in the USA Today that mentioned that wages from across the country for the average worker actually fell in 2014. This article surprised me because there has been a labor shortage for restoration and construction skills in most every market that I visited last year. This shortage has lead to rapidly rising prices. In some markets it is getting difficult to get work completed in a timely manner. There are several reasons why this is occurring. With the downturn in the economy in 2009, many skilled construction workers retired, changed careers or relocated. As new construction and remodeling have rebounded, the workforce has not increased to meet the demand. Restoration skills have been in high demand due to the long, cold winter followed by regional catastrophes throughout 2014. With several active industry recruiters, many management positions now have a national reach and those with restoration experience are placed in days, at the longest. I would expect this trend to continue in 2015 with continued strength in the building market, low interest rates and a prediction for another cold winter.
Without much commentary here are several recommendations based on this trend:
- Look outside the restoration industry for good employees. Plan on training in restoration skills but hire fist on character and fit for your organization.
- Expect to pay higher prices. This will be an interesting challenge, as you navigate wages paid to your existing staff. I recommend that you utilize incentives that allow employees to earn more with less risk to the company.
The most impactful trend from the last two years has been based on the weather. The interesting twist on the weather has been the nearly decade since the last major hurricane making landfall. Many cities were still completing work from 2013 flooding throughout much of 2014. This past year’s most significant weather event was the polar vortex that impacted most of North America with record breaking cold weather, snow, ice and wind that lasted for much of the winter. I had one client in the Midwest that was so tired of being in CAT mode that they renamed it “Fox” mode simply to offer a change. As I write this article the interesting weather continues. Heavy rain is falling in Los Angeles for the first time in nearly one year, the Midwest has experienced record cold weather and The Farmer’s Almanac is calling for another cold winter. There is disagreement on the cause and extent of weather changes yet it is apparent that the weather extremes are becoming more profound. The purpose of this article is not to debate man caused global climate change, sun spot activity, Interdecadal Pacific Oscillation or any other root cause of the weather trends. The apparent reality is that the weather is different today that it has been over the past twenty years. These weather trends have had an impact on flooding and freezing over the past several years. I am not a meteorologist or weather expert yet my amateur understanding and reading leads me to believe that at least for the foreseeable future we can expect to see significant regional weather events.
Here are my recommendations based on this trend:
- Make sure you have catastrophe procedures that allow you to maximize the return from peak weather events. Make a strategic plan on how you will triage jobs, respond from a labor standpoint, source equipment and manage other resources needed to handle wide swings in your work.
- Protect your capital. Have available capital to cover cash and asset needs in the face of peak work periods.
- Have billing and collection systems in place prior to any event that will allow you to rapidly bill and collect on completed work and also create and stick to draw policies for larger jobs.
Back in the early 1990’s water damage was a needed service but was not a significant department in most restoration companies – almost an after thought. Today water damage has evolved into one of the most professional and technical aspects of many restoration companies. With the advent of the Fireline System and Omegasonic systems and specialized training, contents cleaning and deodorization is going through a similar evolution. Over the past several years many companies have invested significantly into their contents processing abilities and skillset of their restoration teams. Fireline rolled out their Red Star program that raised the bar for training and professionalism for cleaning professionals. I expect this trend to continue to develop. There are some insurance companies in Canada that are recognizing this trend and requiring specialized contractors to complete deodorization projects. New developments in technology, process and practices will continue to evolve as this part of the industry advances.
- If you plan on competing in this part of the industry then make sure you have a professional manager for this department to lead this area of your company.
- Invest in technology and training to assure that you are able to compete with the other companies that have already made a commitment to contents processing and management.
- Develop systems to tracking and managing production so that you can monitor and manage the return on investment from your activities in this area. Adjust your chart of accounts to appropriately determine your cost of completing the work and running this department.
- Continue to check with your property owner and insurance clients to make sure you are adding value in the process. As our systems become more sophisticated and costly, we need to assure we are offering value to our clients, not just submitting bills.
- Be prepared for costs to come down. As the competitive nature of the industry changes, expect the insurance companies to start to reduce or limit the amount that is being paid for contents services. Would you be able to survive if you were paid 10% less for the work? I am not saying that this is going to happen right away, yet I do expect that prices will drop over the next five years.
Five or six years ago there was only one prominent third party administrator. Others existed but the only relevant program was Crawford Contractor Connection. Off the top of my head I can think of five different programs: Crawford, Diamond Solutions, Code Blue, First Choice and Innovation Network. These programs are obviously meeting a need for the insurance industry. The good news is that they are typically using the standard industry pricing databases and charging a fee for the service. The challenge is that the fees keep escalating along with the program management responsibilities. The average project size is also usually quite small which requires consistent and immediate response. It is a challenge when a $2,500 bathroom water damage requires a more immediate response than a $25,000 or even a $250,000 project. I expect the TPA’s will continue to gain market share and influence. As a natural consequence of this claims migration, I would expect that the fees will increase and/or the prices paid will go down. You can see a similar situation occurring in the claims landscape in Canada. TPA’s are not as prevalent but most insurance companies have managed vendor programs. These programs have very aggressive pricing and most do not pay 10 and 10 - they are paying 10 and 3 or some other amount – because they can. Pricing has become a function of the insurance companies desire to control their current ratio in a situation where there still is an oversupply of contractors. My prediction for 2015 is that you will continue to see more work being handled through TPA’s and along with this I also expect to see a decrease in the margin for this work – either because of higher fees or lower payments, or both.
Here are my recommendations:
- In most cases I advise my clients to sign up for programs and then assess the program after at least ten jobs. Review the project expectations, profit margins, payment terms and administrative requirements to determine if the program works for your business.
- If you choose to participate in the vendor programs then make sure you are offering the appropriate administrative support to assure you are meeting the program expectation. Understand that there is an expectation the work will be completed properly and in a timely manner. You also need to make sure that you are in the top of your region in completing the administrative functions as well in order to survive.
- Make sure you know the scoreboard for the program. Assure that your internal systems and procedures are set to meet or exceed the benchmarks for the programs.
- After reviewing the programs, be prepared to walk away if the program does not work for your business.
Pricing has become a very contentious issue in restoration. While the margins are still strong compared to other industries, they are stable and falling in most markets. The prices in Canada are falling much quicker than in the U.S. This is most likely due to the smaller population with a heavy contingent of national restoration players combined with the relatively few, yet very large insurance companies. The size of the insurance companies offer much greater pricing leverage than in other markets. The U.S. insurance market it much more fragmented and also regulated which keep the prices higher. The challenge is that Canada has become a test market for many insurance companies and the pricing policies might start to flow south. An unknown factor in the pricing issue is a pending audit of restoration pricing models by the major Canadian banner groups using Deloit for the investigation. I suspect the results will show that the prices are being manipulated and are not truly market based. That being said – I am not sure how this will be used to make any difference in prices paid for restoration in Canada.
Lower margin is perhaps a better way of talking about this issue. Pricing leads to different margins for every company. In reality most companies are seeing their gross profit margins shrink and in some cases rather dramatically. The first consideration is that perhaps these companies were charging too much. The reality though is that in many cases costs are increasing and prices are staying the same or going down. In many markets the cost of labor is increasing and materials are also going up. Some are able to utilize subcontractors and they are taking the brunt of the increased costs but this will not last – the costs will be passed on to the restoration contractors if they have not already. Several of the companies that I am working with are changing their compensation programs as a result of these lower margins. This step is substantial because it will lead to the acceptance of lower margins yet at the same time the programs and market realities are dictating this step.
Here are several recommendations based on the above margin trend:
- Understand your costs. Know your overhead, gross and net margins and be fully aware of your cost of doing business. Many pricing decisions become emotional rather than strategic. If you are aware of your costs then you can make better decisions.
- Make sure you analyze your job budgets and the costs for running your business. Take steps to eliminate unnecessary costs and optimize your project margins.
- Review your clients and make sure you are partnering with companies that work for win-win relationships. Put yourself in a position where you can afford to get rid of clients that do not work for mutual success.
- Change your work mix – you know that some types of restoration work is more profitable than others. Review your marketing plan and strategy to increase the more profitable portion of your business.
- Create an overhead where you can make net profit dollars based on the gross profit that you are able to achieve. For example if you are only able to make a 35% produced gross margin on your profit and loss statement, then make sure your overhead is no more than 27% and I would recommend 25%. (Note: these numbers are only used as an example and are not budget expectations.)
- Constantly review your production processes to learn where you are missing opportunity to impact margin. Regularly hold project debriefing sessions to discover ways in which you can improve process, service and margin.
- Establish a compensation system that focuses effort on the desired outcomes of profitability, quality, customer service and collections.
Fifteen years ago there were only several companies that were recognized for their great work and consistency in managing large losses. There were many people performing large projects yet there was not the proliferation that exits today. Several companies built their substantial businesses by focusing on large losses and then reinvesting the profits into their business in order to leverage their position in the market. I recall a relatively small company that completed work from projects on Hurricane Fran and then several large projects in a regional event in North Dakota to become one of the largest players in the industry. There still is opportunity to utilize profits from large events to reinvest in operations, equipment and personnel to become a regional or national player but there is definitely less occasion and much greater competition. As an operator you also have to decide if you are going to invest several hundred thousand in cash and profits in the hopes that the next large project comes along.
Previously insurance companies focused on business interruption more than the cost of repairs so these projects consistently offered a much greater profit than currently. Today you are seeing more national players, programs and auditors involved in large projects. I know of a franchise group that has a separate large loss franchise. This franchisee does not work on any projects smaller than several hundred thousand dollars. I was surprised when I learned of their relatively low margins yet the owner assured me that they have a very low overhead and most projects were complete in less than a month. Crawford Contractor Connection is starting a large loss program that will most likely set the bar fairly high for performance, documentation, and billing and have a competitive price list. Disaster Kleenup and other franchise groups as well as BMS Cat, Restoration Affiliates, Belfor, Interstate, JC Restoration, Signal Restoration, Royal Plus and other national and regional restoration companies have set the bar high for performance and value. In addition to the competition most large projects are now subject to audits with companies like MKA and JS Held – or even other restoration companies being called to audit and scrutinize the project management and billing. When you are waiting on a half million dollar check then you are often in a position of weakness and will frequently accept a lower amount if offered. There are still great opportunities in commercial restoration yet there are also many new challenges. I suspect that this will continue to evolve and the change will accelerate. There will continue to be great opportunities during catastrophe events.
Recommendations for in response to the changing catastrophe environment:
- Look for a professional large loss company that can partner with your company. If projects are to large or complex for you to manage or fund, perhaps you can receive a finder’s fee and not have any of the production risk.
- Realize that when you are working on large losses, even with a contract and production occuring, you can be removed from the job throughout the first several days – and maybe even longer if you are not performing.
- Make sure you have top-notch documentation for everything you are doing – all time spent, materials used and equipment. Be able to provide back up and support for everything that you are billing for.
- Know where the money is coming from and make sure that you are able to get progress payments so that you are not financing the entire project – unless you are in a position to absorb the cash flow and have the ability to survive not getting paid if things go bad on the project or with the clients’ business.
- Realize that your bill will likely be audited or challenged ever if you have an agreed scope and price with the adjuster. There are frequently additional levels of approval prior to getting paid or having any funds released. Be prepared to stop the job if you are not getting progress payments if all parties agreed on them. If you are collecting your money from a position of strength you have a great chance of being paid. If they project is complete then you have no leverage for collection and getting paid in full is more difficult.
- If you want to participate in these types of projects, be prepared to reinvest the profits in equipment, labor and resources.
- Understand your core competencies and be prepared to walk away if you are over your head. Many times the greatest business lesson is knowing when to say no. If you are not certain that you have the ability to complete or finance the project then spend your time where you know you can get a positive return. If you get over your head on a project or an out of town event then you may not be able to properly attend to your key clients’ needs. If you really want to work on large losses then spend time and money to learn how to best handle the projects and invest in your resources to be ready should the occasion arise.
- Training resources or opportunities may include:
o Attend outside classes from someone like Jim Thompson or attend a Commercial Drying Class.
o As you network in the industry find companies that do a great job on commercial losses and volunteer to work for them the next time they are handling an appropriate loss. You may have to find companies outside your region so they are not training their competition. Partner with a company on a job that you have received. Learn from them as they manage the project. You may decide that you like assisting and sharing the responsibility and risk while also sharing in the profits.
o Join a group with large loss resources such as Disaster Kleenup, Restoration Alliance or even Paul Davis. This will give you understanding and access to large loss resources.