Strategic Gold: Maximizing Spec Builder Capture Rate

This paper examines the area of speculation home building within a strategic planning context. A wealth maximization model based on a strategic plan and utilizing the optimization power of a decision support system is demonstrated from a case study perspective. This paper is one of a series of papers based on the Granite Falls Ranch project located in northern Colorado. The case study project was based on a tri-partite mission of achieving balance between social stewardship, environmental sustainability and wealth maximization. The focus of this paper is the wealth maximization goal and specifically the strategy of maximizing the speculation homebuilders capture rate (i.e. total dollars received as a percentage of the project budget.). The developers of the project projected a 47% capture rate of the total project budget. This percentage represented self-performed labor, supervision, design, markups and contingency savings. Because the number was based strictly on a conceptual cost estimate made in the early stages of pre-development, this research study was undertaken to test the validity of this conceptual number. Based on successive estimating techniques, the research supports the developers capture rate assumptions. The quantifiable result of this strategy supports the wealth maximization concept with a net worth increase of $700,000 projected at completion of construction and an increase in excess of $1,000,000 over the nine year life of the project.

Key Words: Strategic Planning, Wealth Maximization, Speculation

Introduction 

General Problem 

If you happen to work for a medium sized contractor, the following summary of the year might sound familiar: your firm sought out and bid $700,000,000 worth of work. You were successful in securing $60,000,000 in contracts of which you performed. From this your net profit for the year is 2% or $1,200,000. This paper challenges the conventional wisdom and suggests that given the proper practical experience and formal education, a small builder/developer can maximize personal wealth by comprehensive self-performance of a small number of projects. This paper suggests that this strategy be referred to as Maximizing Spec Builder Capture Rate. 

This paper explores the strategy of maximizing a small speculation home builder/developer’s capture rate through self-performance of work, which supports the goal of maximizing wealth. The tactical plan that is quantified in this research represents one of nine strategies outlined in Strategic Gold: Achieving Balance Between Social Stewardship, Environmental Sustainability and Wealth Maximization (Nobe and Nobe, 2003); a case study based on the Granite Falls Ranch located in northern Colorado.  

Abbreviations and Definitions  

Definitions are provided as a basis of the system language employed in this study. Understanding these terms is considered an important part of understanding the process being analyzed. Please note that terms are in alphabetical order with no implication of relative importance.

Importance of the Problem 

The primary importance of this research revolves around the idea that for some developers, career satisfaction comes not from maximizing the number nor the size of projects, but from the “total” development of a select few, but highly lucrative, ventures. This of course frames the most important delimitation of this study, specifically that not all builders/developers are capable of self-performing the amount of work necessary to support this strategy. However, given the right combination of trade, design, construction management and property development/management experience, the stage is set for those who prefer to chase less homogeneous work and would rather direct their efforts toward a few overall diverse projects. 

For example, a person who learns the tile trade might decide to make this a career. In that capacity, this person would seek to estimate, bid, and install the tile portion of other people’s projects. Now this same person might over the years and through practical experience and education also develop their trade, design and management capabilities. Although they could continue to perform as a specialty contractor (i.e. tile), they now also have the option to build an entire house (i.e. design, CM, tile, frame, concrete, drywall, etc.). The importance of this study is that it quantifies the financial potential of those who are capable and, in fact, select the second scenario described above. 

Appendix A demonstrates the concept of maximum capture. The example is based on average cost data for a typical tile installation (RS Means, 2003). In this example, the raw material and tax components of the work package represent approximately $900 of the total projected work package value of approximately $4,700. Allowing for out of pocket overhead expenses, there is nearly $3,200 of potential capture. This represents an incredible 68% capture rate. It is important to note that much of the capture is in the form of compounded markups. In this example, material is marked-up for retail, the subcontractor, the general contractor, the developer, the architect and the sales agent.  

On larger projects, the equation changes slightly. Since most material, land cost and some specialty work cannot reasonably be captured, the overall project capture rate on larger projects decreases accordingly. This study builds on this concept by leveraging both developer’s education and professional experience to maximum benefit. Because of the skill brought to the table, the developers are in a position to capture the “value added” percentages of the majority of the project tasks. Basically, this means that by self-performing the majority of tasks, the compounded labor, profit, overhead and other markups accrue to the spec builder/developer – to the tune of over $700,000 or 47% of project value (see Project Summary – Appendix B).  

Research Problem  

Purpose 

The purpose of this research is to determine the potential capture rate and total dollars that the developer of the Granite Falls project can reasonably expect to achieve. 

Hypothesis 

The general hypothesis of this research is that the developer’s Granite Falls Ranch project is viable. The construct of “viability” is operationalized by three hypothesized variables: 1) Total Dollars (captured); 2) Capture Rate (percentage); and 3) Man-hour (requirements).  

·         hypothesis 1: The developer’s conceptually budgeted capture of $700,000 of the total project design and construction budget can be substantiated utilizing a comprehensive work breakdown structure and successive estimating technique.

·         hypothesis 2: The developer’s conceptually budgeted capture rate of 47% of the total project design and construction budget can be derived through a comprehensive successive estimating approach.

·         hypothesis 3: The developer’s necessary man-hour contribution can be accounted for by the elimination of non-productive personal time and the use of small company contract labor. 

Delimitations and Major Assumptions 

This study represents a strategic plan and the work at this point is being done in the pre-development stage of real estate development. By definition, a plan is “thinking in advance” and therefore no representations regarding the actual outcome of this particular plan are being made at this time. Individual results will vary and will be heavily contingent on each individual spec builder’s ability to not only develop their own tailored strategic plan, but also on their ability to execute in the form of organizing, directing and controlling the plan once they put it into place. 

The plan quantified in this study assumes that the development team brings substantial education and experience to the table. In this particular case, the two key players (developers) bring nearly 40 years of combined real estate development and property management education and experience to bear on the problem. This experience includes the entire range of management experience from line level to executive and in entrepreneur to corporate settings. Experience also includes a substantial and sustained level of multiple trade level work. In addition the developers collectively hold five advanced degrees (two B.S., three M.S. and one Ph.D.), with another Ph.D. in progress; all closely related to built environment development. In essence, the developer’s constitute what Peter Drucker (2001) classifies as “high-knowledge workers”. The following is a list of anticipated subcontracts; the remainder of the project will be self-performed: 

The plan calls for substantial contributions from the developers in the form of man-hours and equipment usage. The developers are employed fulltime (9 month academic contracts) in other capacities related to construction and the time contributed to the project is considered “personal time outside of work”. Therefore, one of the hypotheses is that the total man-hours contributed can be easily accounted for through elimination of nonproductive activities such as watching television (Real Vision, 2002) and/or through the supplemental use of small subcontract labor. The equipment usage is covered under the concept of “sunk” cost. Since the developers are doing this project as a “side project”, use of personal computing equipment, small tools, vehicles, trailers, temporary facilities, etc. are considered to be totally captured since all items are already either paid for or committed to regardless of whether this project proceeds or not. Therefore, as sunk cost, their cost cannot be considered in the feasibility equation; however, the value of work supported by these resources accrues to the spec builder/developers nevertheless. 

Design 

This applied research is based on a case study of a project currently underway by a small residential real estate development company. Specifics of the project and development team are elaborated on in the Project Background section. In general, the project is a multimillion-dollar mixed-use speculation project located in the western United States. The project was approved for funding in June of 2002 with land acquisition and infrastructure development beginning immediately. Based on the approved project budget of $1,500,000 (see Appendix A), this research utilizes a reverse engineering approach to derive the developer’s total potential capture, capture rate, and man-hour contribution requirements. To minimize researcher bias, an independent third researcher was added to the team and given a tour of the project site and provided the project conceptual specifications (see Project Background below). The team collectively developed an extensive work breakdown structure (WBS), schematic designs, and identified work packages that could reasonably be accomplished by the developers. The independent researcher then successively estimated (Barrie and Paulson, 1978) the project utilizing a combination of conceptual, assembly and detailed procedures. Utilizing local, regional and national cost data/quotes (RSMeans, 2000, 2003), work packages were adjusted for this specific project’s job conditions, schedule and location. For each of the 120 work packages, an estimated total dollar, captured dollar and man-hour budget was derived and documented in a work package summary. Following standard estimating protocol, the work packages were rolled into line item summaries by project phase. Multiple phases were then summarized (see Granite Falls Ranch Project Summary - Appendix B) and marked up with contingency, general conditions, profit, and overhead and development fee percentages. The total capture rate was then determined by dividing the total estimated captured dollars from the self-performed work packages by the total project estimate/BUDGET. Total man-hour requirements were similarly derived.  

To determine the statistical probability of arriving at the estimated total cost and percentage capture, a sum of the squares analysis was conducted assuming that each work package could reasonably vary by as much as 15%. The only work package that was not assumed to vary by 15% was land acquisition which was complete and could be based on a historical cost with no variance. Following sum of the square protocol, the standard deviation and variances for each work package were calculated and summed. The process was then reversed and applied to the total project estimate to determine the statistical probability that the total estimated cost, capture and man-hours could be achieved. 

Project Background 

Overview 

In general, the project consists of all new construction of a private mixed-use residential/equestrian center; including a primary residence, carriage house (guest suite) with garage/shop, an indoor riding arena, an outdoor riding arena, outdoor round pen, barn and paddocks, pasture horse shelters, and all necessary infrastructure (including well and distribution; septic; power; fences and roads). In general, the materials and methods planned will be considered “high” quality. All structures will incorporate sustainable design, which includes “alternative” methods (i.e. recycled cardboard bale construction, log/chinked construction, small-diameter timber utilization, native material utilization, etc.). In addition, the entire facility will be backed-up with wind/solar/propane generator power and other “alternative” energy systems and/or passive design elements.  

Schedule: The project began in 2001 and is scheduled to continue for 9 years with the following general milestones: 

Although the project is not anticipated to be sold until 2010, contributing additional profits in the form of appreciation, this research paper concludes with the completion of the main residence in 2006. It is conservatively anticipated that appreciation and sales commission capture will potentially increase the total capture to $1 Million over the 10 year life of the project. 

Financing: Construction loan financing has been committed to over the entire 4-year period at a rate of 9% per annum to be accrued and payable January 1, 2007. In addition, $4,000 in points will also be paid upfront and will be included in the financed amount. The land financing is currently financed on an interest payable only 3 year balloon at a rate of 11.5% with 4 points. Monthly payments will be made on the land. 

Fees/General Conditions/Mark-ups: All appropriate fees including the developer’s fee, design and engineering, GC profit/overhead, CM, as well as trade level profit/overhead is accounted for. In addition, the appropriate project general conditions, including but not limited to trash removal, job site trailer, equipment rental, etc. are accounted for.  

Site: The project is being built on a 35-acre site located approximately 35 miles northwest of Ft. Collins, Colorado. The site lays roughly rectangular with the long dimension running north-south. It is bordered on three sides by year-round accessible county roads and bordered on the north by a high rocky bluff. In general, the terrain is grass-covered hills with exposed granite rock outcroppings and scattered trees. Currently, the east, west and south boundaries are fenced. The contract price included a pinned survey, plat map, perk test and well permit. 

Facilities - General Specifications 

Outdoor Arena: 300’ x 150’ plus 300’ x 12’ wide alleyway from catch pen to roping chutes, 6x6 treated posts with 4 – 2x6 board rails (or small diameter timber), lighting. 

Round Pen: 70’ diameter, 8x8 treated posts with 5 – 2x8 board rails (or 12” log posts with small diameter timber rails) over 2x solid 3’ high sloped riding wall. 

Indoor Riding Arena: 200’ x 75’, wood pole/truss and or steel with metal siding, combination composition shingle/metal roof, 4’ high sloped solid wood riding wall, propane fired overhead radiant heat, lights and music system, riding footing mixture of sand and sawdust. Exterior 12’ alleyway from catch pens to interior roping chutes. Exterior log column and truss main entry. Alternative construction may include recycled cardboard bale walls, perforated steel siding heat collectors, integrated roof solar photovoltaic cells, log post and small diameter timber paddock rails, metal roof rain water collection and 30,000 gallon interior storage/water distribution, etc. 

Barn/Horse Shelters: 36’ x 60’, 13” hand peeled log walls with insulated truss roof, combination composition shingle/metal roof; 12’ O.C. interior partitions including a 12’ x 12’ office/bathroom, 12’ x 12’ tack room, 12’ x 12 wash bay, four 12’ x 12’ stalls with aluminum grills, feeders, and door hardware, automatic water to stalls, water/sewer to office, propane fired overhead radiant heat in alleyway. Power and music system to be provided throughout. Stamped concrete in alley, office, tack, and wash bay. 48’ x 12’ shed roof on exterior over 36’ x 12’ steel rail fenced paddocks. The office will be completely furnished upon completion, including furniture, art work and office equipment (i.e. computer, fax, scanner). In addition, two 12’ x 16’ 3 sided log horse shelters will be provided with metal shed roofs – no power. The will incorporate similar alternative methods as discussed above with the indoor riding arena. 

House: 2500 sf 2 story house (including approximately 800 sf second story). Finished 1000 sf walkout basement (open gym and game/pool room), “T” configuration; 13” hand peeled log wall (10’ first floor ht.) with insulated truss roof/framed gable ends; combination shingle/metal roof; large “gourmet” kitchen with open living and dining area; extensive use of tile and rock to accent logs; steep shingled roofs (8:12) with dormers, accented with metal clad shed roofs (3:12); 3 full bathrooms; 1 spa (jetted tub); 2 gas/1 wood fireplaces; 1,000 sf exterior stamped concrete and/or flagstone porch. The house will be completely furnished (show ready) upon completion, including artwork, furniture (majority antique), pool table, outdoor freestanding “Jacuzzi”, outdoor grill, kitchen necessities (including plates, silverware, pots/pans, etc., drapes, linens, etc. In addition to the alternative construction methods being considered for the barn, the house will also possibly incorporate a gray water collection system, sustainable bamboo flooring and other materials and finishes.  

Carriage House: 24’ x 36’ garage/shop, 13” hand peeled log wall (14’ high; 10’ in garage, 4’ in guest suite above) construction with insulated truss roof/framed gable ends, combination composition shingle/metal roof. Exterior shed roof (metal) length of garage 12’ wide. Man-door and windows as appropriate plus 3 insulated 12’ wide x 8’ high overhead doors. Stamped concrete floor with drains. Guest suite above to include open living, kitchen, dining area; separate guest sleeping quarters with full bath and walk-in closet. Access to garage below and well as to exterior covered porch. The guest suite will be completely furnished (show ready) upon completion, including artwork, furniture (some antiques), kitchen necessities, drapes, linens, etc. The shop/facility will also be completely equipped with tools and ranch equipment (include a $40,000 allowance). 

Infrastructure: This will include a domestic well with extensive distribution to “all points including the main residence, carriage house, barn, indoor and outdoor arenas, horse shelters, and various pasture locations. Distribution to unheated areas will be serviced with freeze-proof hydrants. Well pump to be sized large enough to properly irrigate a 1 acre pasture as well as pump to all locations. A 1,000 gallon storage tank to be placed high above the building to the west (cliff area) for dedicated gravity feed fire protection. Public power is available on the north edge of the property – trenching is expected to be difficult is some areas. Back-up solar/wind and propane generator power and other alternative energy sources are anticipated. Septic system and leach field sized to service all proposed structures. Gravel access road with culverts and drainage as needed. 2,000 gallon propane tank to be provided and sheltered from view. 

Entry Feature/Landscaping/Fencing: Metal entry gate with solar power, native rock walls on each side with log columns and header. Carved wood or polished granite sign supplied with power. In general landscaping will be natural and low maintenance. Landscaping to consist generally of natural features and xeroscaping with the addition of approximately 10 large trees (i.e. cottonwood, elm, maple, etc.) at various locations as well as some shrubbery which are to be watered utilizing captured rain water. In addition, a small water feature will be located near the main residence exterior porch and will include a small pond (approximately 20’ diameter) with 30’-50’ feet of running water (3’ wide lined stream) and 10’ high waterfall built into existing rock cliff and outcroppings and will also provide the water route to supply the stock tanks located throughout the property. Sustainable small diameter timber buck and rail fence will bound the entire property perimeter (except back cliffs) as well as along the drive on both sides. All fences will be hot wired with solar power.  

Results 

The results of this research reject the null hypothesis that the Granite Falls Ranch project is not viable. Based on the successive estimate summarized in the Project Summary (see Appendix B), both the total projected capture of $700,000 (Hypothesis 1) and the capture percentage rate of 47% (Hypothesis 2) are substantiated. Based on a sum of the square statistical analysis (Barrie and Paulson, 1978) and assuming all work packages could reasonably vary by 15% (except land and fees which are either already committed or totally controlled by the developer), the capture rate of 47% is considered accurate to within plus or minus 11%. Although the total estimated cost exceeded the approved project budget, this merely resulted in exceeding the expectations of total dollars captured. Anticipated value engineering will reduce the total cost and associated capture from $876,140 to the hypothesized level of $700,000. 

The research results indicate that a $1,500,000 project that can reasonably capture 47% or $700,000 will require approximately 8,400 man-hours of developer contribution. Given that this project is being conducted on a “free time” basis, hypothesis 3 was tested to determine if the required hours could be accounted for by simply eliminating non-productive personal time (free time) and the use of small company contract hours. “Non-productive” time was operationalized as time spent watching television. Based on the national average of 4 hours of television per night (Real Vision, 2002), it was calculated that by simply eliminating time spent watching television, the two developers could potentially contribute 17,520 man-hours over the 6 year duration of the project. In addition, since the developers are only contracted for nine months in academia, an additional 6,012 potential hours are available to contribute to the project based on a 167 hour work month over the 6 year duration of the project. Therefore, 23,532 hours are potentially available simply by eliminating television (average) and utilizing non-contracted months. Since the developers have already achieved nearly total elimination of time spent watching television, the potential hours are considered available. Given that man-hours required is less than 36% above the calculated need, the man-hour requirement is determined to be viable, even without use of small contractor labor which will be used as a contingency to keep the project on schedule. Simply put, the developers will need to contribute approximately 1/3 of their free time to this project. 

Conclusion 

This applied research study was conducted to answer a management dilemma regarding viability of a multi-million dollar project currently funded and in the infrastructure stage of development. The developers of the project had previously hypothesized (funding proposal) that was based on a theory of maximum capture through self-performance of work; they could reasonably capture $700,000 or 47% of the $1,500,000 budget. For this study, a successive estimating technique was used to verify the conceptual budget and statistically determine that there is an 89% probability that the developers can reasonably achieve a capture of $700,000 or 47% of the project budget. 

References 

Barrie, D.S. and Paulson, B.C., Jr. (1978). Professional construction management. New York: McGraw-Hill Book Company. 

Drucker, Peter. (2001, November 3). The next society. The economist. 361:8246, 3-20.

Nobe, Michael D., and Nobe, MaryEllen C. (2003). Strategic gold: Achieving balance between social stewardship, environmental sustainability and wealth maximization. Proceedings of the 39th international conference of the associated schools of construction, Clemson, South Carolina, April 10-12.  

Nobe, Michael D., and Nobe, MaryEllen C. (2002, June). Funding proposal. Unpublished technical report. 

Nobe, Michael D., Sharkawy, M. Atef and Nobe, MaryEllen C. (1999, September). Decision support system impact on conceptual cost estimating and risk analysis. Journal of Construction Education. 3:3. pp. 291-304. 

Real Vision. (2000) Facts and figures about our TV habit. TV-Turnoff Network, [WWW document] URL www.tvturnoff 

RSMeans. (2003). Building construction cost data, Western Edition, 14^th Annual Edition. Kingston, MA: RSMeans Company, Inc. 

RSMeans. (2000). Residential cost data, 20^th Annual Edition. Kingston, MA: RSMeans Company, Inc. 

Sharkawy, M. A. and Nobe, M. D. (1995, April 27-29). A decision support system for planning property development. Proceedings of the Pacific Asia Research Conference. Singapore.  

(May 12, 2003). The language center, Merriam-Webster online. [WWW document]. URL http://www.meriamwebster  

Appendix A 

Maximizing Capture Rate

Appendix B 

Project Summary