Can a price be too cheap?

We all love a bargain right? Group buying websites, department store sales, online shopping. We are being bombarded with discounts so much that if we pay full price we tend to feel ripped off.

Giving hefty discounts is fine if you have large markups. Sure profits take a hit, but if they are still making money the business can be sustainable.

The construction industry is a very different. Margins are generally a lot lower than retail (which can be more than 100%), generally builders mark up their costs in the range of 3-12%. So let’s have a look at what happens when a builder who is desperate for work drops their price significantly.

The builder can either reduce or remove their profit or they can seek to reduce their costs by using:

• Lower quality tradesmen
• Lower quality materials
• Less onsite supervision, which increases the risk of poor workmanship and defects
• No contingencies for ambiguous documentation means more variations and inflated variation prices
• No allowance to come back and fix any defects that occur

If any errors are made with the pricing then the builder may lose money. If this becomes systemic, then it can lead to insolvency.

The above problems can snowball if the subcontractors the builder engages also price the work too cheap giving the same headaches described above to the builder, who will then seek to pass costs onto the Homeowner or Client.

It really becomes a downward spiral if there is not enough money to go around.

So you might be happy that you saved thousands when you signed the contract with the builder, but are you going to get what you want, will there be constant arguments over money and will the builder still be in business at the end of the project?

So how does a homeowner know what price is too cheap? I suppose it is difficult to know for sure, but good indicators are:

• They are significantly lower than your other quotes
• A willingness to drop the price to any number  to win the job
• Excessive amount of exclusions in their tender
• Or maybe something just doesn’t feel right

It comes back to the issues raised in my previous blogs; pick the appropriate tenderers, good documentation, get at least 3 quotes and analyse the prices correctly. Do this well and picking the right builder becomes a whole lot easier.