Navigating economic uncertainty isn’t new to the home construction industry. Just five years ago, during the pandemic, builders contended with supply chain constraints and keeping crews safe on the job site. Today, amid rising home prices, low inventory, labor shortages and tariffs, builders find it hard to be optimistic.
“Builders continue to face elevated building material costs exacerbated by tariff issues, as well as other supply-side challenges that include labor and lot shortages,” said Buddy Hughes, NAHB Chairman.
This new reality highlights the urgency to pivot from the norm, particularly for builders developing home-building contracts. As costs rise and supply-chain hiccups persist, traditional agreements may fail to address unpredictable variables. Staying afloat and thriving in a turbulent market can be tricky as these challenges mount.
A cost-plus contract is a strategy to consider. Cost-plus contracts provide flexibility for your business and enable you to navigate economic uncertainty while maintaining customer transparency.
Let’s examine cost impacts
Understanding the cost impacts in an uncertain market can be challenging. Material costs and labor shortages associated with a fixed-price contract can strain your profit margins and potentially jeopardize project timelines and customer trust.
We’re examining the cost impacts and how to boost profits for small builders.
Rising Material Costs: We are experiencing price increases from countries that import lumber and steel, primarily from Mexico, Canada and China, which are most affected by tariffs, making it increasingly challenging to predict project costs accurately. According to NAHB members, the tariffs will increase material costs from $7,500 to $10,000.
Labor Market Volatility: Labor shortages have plagued the industry for the last two decades and will persist. Skilled workers have been in short supply as demand for housing continues to rise. Couple this with the workforce aging, and we are experiencing the perfect storm — increased labor costs and longer project timelines.
Tie to Fixed-Price Risks: Fixed-price contracts have been standard in the industry, but they can become a liability in today’s unpredictable economic climate. A fixed-price contract means that the builder (you) is locked into an agreement and will bear full responsibility for the costs and losses arising from fluctuating material and labor costs. There is zero flexibility — cost overruns or project disputes mean you bear the full responsibility.
How cost-plus contracts work in home construction
A cost-plus contract provides a straightforward model for home construction and an effective pricing strategy for small builders. It guarantees that your customers cover the incurred costs—materials, labor, and other expenses—along with a contractor fee. The contractor fee can either be a fixed amount agreed upon in advance or a percentage calculated based on the total project cost.
For example, let’s use the latest median home price of $357,000 (according to Zillow) to determine how a cost-plus contract pencils out.
Actual costs
- Materials: $200,000
- Labor: $120,000
- Other expenses (permits, utilities, etc.): $10,000
- Total costs: $330,000
- Contractor’s Fee
- Percentage: 8% = $26,400. Total price is $356,400
- Fee: ~$27,000. The total price is $357,000
As mentioned above, if material prices increase from $7,500 to $10,000 due to tariffs, you will still be compensated and not absorb these unpredictable increases. By displaying the adjustments on itemized invoices, you are being transparent and building trust with your customers.
A percentage—or fee-based structure has its pros and cons. A fixed fee offers more predictability, while percentage-based fees provide flexibility and scalability.
Let’s offer some practical tips
Cost-plus contracts help builders navigate economic uncertainty, but not without thoughtful execution. Implementing a cost-plus contract can ensure a smoother experience for you and your customers. Here are four essential tips to assist you in making the most of a cost-plus contract.
Set Clear Terms: Clearly define what the “plus” means. Is it a fixed fee or a percentage? Consider adding a Guaranteed Maximum Price (GMP) clause. This GMP clause will limit the overall project cost while maintaining flexibility. This approach offers peace of mind for your customers while protecting your margin.
Communicate Early and Often: Be clear on why you’ve implemented a cost-plus contract for your customer’s project. While they may be aware of the tariff situation, they may not understand how this may impact their project and your business. It is a great time to inform them with real-world examples to illustrate how cost-plus contracts adapt to rising lumber prices.
Track Costs Diligently: Now is the time to invest in a reliable real-time system to track expenses. Tools like Buildxact create detailed estimates, manage budgets, and log expenses efficiently. Share updates with your customers so they can see them firsthand, supporting the benefits of cost-plus contracts.
Pair with Technology: Buildxact was founded on the principle of simplification. You can generate precise and detailed estimates for a cost-plus contract and adjust project budgets dynamically as costs fluctuate. At the same time, you’ll enhance your overall efficiency, improve communication, and maintain customer transparency.
Cost-plus contracts offer greater flexibility and transparency, making them well-suited for today’s unpredictable economy. Compared to fixed-price contracts, which provide upfront cost certainty for budget-conscious customers, they can strain builders in an unpredictable economy.
Choosing between a fixed-price versus a cost-plus contract offers advantages and challenges. In a volatile market, fixed-price contracts fall short for builders who face economic uncertainty, unpredictable material costs, and labor shortages.
Cost-plus contracts provide a flexible, transparent and adaptable approach to today’s economic uncertainty. Cost-plus contracts ensure that you can complete projects successfully and within budget.
How Buildxact helps
In an uncertain market, it’s best to communicate clearly to customers about the possibility of price increases. There’s no better way to do this than by using cost-plus contracts.
Buildxact is designed for builders and contractors who need help with cost-plus billing. With Buildxact, builders can setup cost-plus once they win the job. They set up cost-plus along with a markup percent before beginning the job. As the builder progresses through the job, customer invoices are generated from the creation of purchase and work orders.
The key to invoicing with cost-plus is the ability to change the markup for individual work orders and purchase orders based on current market conditions. As a job progress over weeks and months, builders find this financial flexibility useful for protecting a job’s profit margin.
Build stronger connections with Buildxact
Buildxact is your secret to beating the competition and staying profitable during uncertain economic times. It is a dependable tool for clear, organized and professional customer billing.
Buildxact is a centralized platform that enables you to share real-time project updates, budgets and schedules with clients, fostering trust while showcasing transparency. To see how cost-plus project management works with Buildxact, start a free trial and experience Buildxact for yourself.
