Traditionally, a builder will apply a margin to the total estimated cost of the construction (including such items as labour, materials, novated consultants and associated costs) at the time of the tender.
Variations can become a meaningful contributor to the margin ultimately achieved on the project, but by their very nature, they are not part of the tender price.
The basis of the builder margin is both well accepted and well understood in the construction industry and is typically depicted as a percentage and the corresponding dollar value in the tender documents.
Why would offsite construction upset this conventional treatment? Well, the more of the project that is constructed offsite and supplied to the project by manufacturers of modules, panels, bathroom pods, sub-assemblies and the like, the more likely it is that the problem of multi-layering of builder margins will arise.
We’ll use a bathroom pod for this simplified example, but the logic applies equally to other prefabricated elements. The manufacturer of the bathroom pod will have built into their price their own margin for producing the bathroom. If the builder then applies its own margin on top of the bathroom pod price, two things happen.
First, the bathroom pod is subject to a double margin – which is disadvantageous to the overall cost and viability of the bathroom pod option vis-a-vis the otherwise comparable cost of an in-situ bathroom.
Second, two parties – the bathroom pod manufacturer and the builder – are in effect claiming entitlement to the margin attributable to the builder of the bathroom for sourcing the material and trades and coordinating the works required to produce the bathroom. How can this be justified?
Closer examination highlights the following:
- The offsite manufacturer (in this case the maker of the bathroom pod) should be entitled to the margin attributable to producing the bathrooms that would otherwise have been undertaken by the builder on site.
- The builder will retain some coordination role as far as the bathroom pods are concerned and possibly also an installation role, and so some level of margin commensurate with this adjusted responsibility is justified.
- The builder will also be the builder of record for the project and the first port of call for defects and warranty claims. In these circumstances, the builder will very likely require the offsite manufacturer to provide similar quality assurance and warranties to the builder. In practice, the ability of the builder to rely on the offsite manufacturer in such situations depends upon the integrity and viability of the offsite manufacturer. So at least some degree of risk rests with the builder should substantial warranty claims ensue, and this too would justify some level of margin.
We saw earlier that the default treatment is likely to lead to multi-layering of margins with the obvious cost impost and cost disadvantage for offsite elements. To overcome this, however, requires a more nuanced approach that unpacks the builder’s margin into the elements of work involved for an in-situ build and then adjusts for the work that is no longer involved (since it is being performed instead by the manufacturer of the prefabricated element) as well as recognising any additional or modified work or risk that falls to the builder because of the prefabricated elements incorporated into the project.
Understandably, the deeper appreciation and more complex formulation of the builder margin required to avert double margin being applied to elements constructed offsite is not likely to be readily embraced by builders and their estimating teams. It will be seen as extra work, and worse, perceived as only likely to result in reduced margin for the builder.
Affording offsite construction options equal treatment vis-a-vis in-situ construction in terms of builder margins requires a more nuanced approach to formulating builder margins. However, if this formulation is done properly, the extent to which the value of the builder margin is reduced should be commensurate with the reduced involvement of the builder due to incorporation of the prefabricated elements.