Many contractors look at Change Orders (Claims) as disruptions and a general pain in the neck. How many projects have you done that had no changes (probably very few)? Perhaps there is a way to make lemonade out of these lemons and add to your overall profit. Car dealers have been doing it for years. Look at the cost of extras compared to the original base price. Or, look at the price of parts (only available from the dealer).
Change Orders for private work are inevitable and must be dealt with from the beginning. If you are in the residential market, you are the expert who has to train the client. If you do not prepare your client for the rigors of change orders, you will be the one to pay the price not them. The beginning is the time the contract is signed (or perhaps before)! A sample change order along with an outline of your change order procedure should be included in the contract attachments and the client should initial that he/she has read this. This prepares them for how it will work and what the charge for these will be.
Look at what happens on even a small change order such as moving a door over a foot to the right and enlarging from a 2’-6”to a 2’-8”:
- Fortunately this should not change the schedule, unless the door turns out to be a special order.
- There are several people involved including: the architect/designer, the door supplier, the framing crew or sub, the finish crew orsub, and the project manager.
- Each of them have to be informed of the changed beginning with the designer who must check on possible conflicts and possibly redraw that part of the building.
- The crews and/or subs must be informed of the new door specs.
- The PO to the door supplier must be amended.
- Someone, usually the project manager, has to coordinate all of the above.
- The Change Order to the Client must be drafted with the new charge and approved.
Change Order or Claims are also inevitable. If you are in the commercial or public works arena, you must pay particular attention to the contract and specs with regard to changes and billing for them. Proper format, approvals, and billing deadlines will get you paid. Anything less may not.
Where is the opportunity for profit?
For Private Work (both residential and commercial) profit is a negotiated figure (not a fixed percentage) and once you have the contract you are in a much better negotiating position than you were during the bidding process! If your NORMAL profit figure is 10%, Change Order Profit might be 20, 30, or 50%. There is also the issue of overhead. If you are doing your homework properly, you are establishing an overhead figure for bids every year. Simply divide all non-project expenses like office rent, phone, etc. by total contract revenue for the previous year. This would quantify NORMAL overhead. Change Order Overhead is a different matter. If your NORMAL overhead is 10%, Change Order Overhead might truly be 20% or 30%.
So, if the original bid for the 2’-6” door was $100, its cost to you would be about $80 (using 10% overhead and 10% profit). The additional costs would be the increase for the bigger door (assume $10), the cost for the designer (1 hour @ $50), 1 hour for the project manager ($45/hour) to get the new change order drafted and approved, and 1 more hour for the project manager to coordinate all the changes. Our costs increase by $150. Our profit and overhead at $40% add an additional $60 for a total of $210 to change the door.
How much is too much?
That depends on your client, how much they know about your business, and how well you have trained them for the change order process. If you are a subcontractor dealing with a knowledgeable general contractor and price your change order too high, you may have a difficult time collecting or may not see any more work from them. On the other hand, the general contractor is simply passing this on to the client with his profit. As long as your figure is not outrageous, there may be no problem. You will not know until you test the water. If you are a general contractor dealing with a homeowner (remodeler or custom home builder), you are in a very good negotiating position. However, most of your business is probably from referrals that might dwindle if you are seen as taking advantage of you clients.
Strategies
You might want to change your normal contract to include a specific number of change order estimates at no charge. For instance, you could make the first two free. After that, there might be a change order estimate charge of $100 or more. You might also prepare the client by telling them that change orders items cost significantly more than if included in the original contract. In any case, you want to standardize the change order process into a routine.
Change Order Procedure
You might want to consider a written procedure for Changes. This will vary depending on the types of jobs you do. However, it is important for project managers to logs changes immediately, This will keep things from falling through the cracks and enhance your bargaining position when the client questions the actual price of the job vs. the original contract price. We also recommend a standard form be used to describe the work and inform the client about charges (for this and previous changes). Here is a link to a sample Change Order Policy you can use as an outline:
Sample Change Order Policy Sample Change Order (format)
For those of you who use construction accounting software like Sage Timberline Office or Sage Master Builder, this is a snap! Both systems include robust change order management that integrates well with accounting.
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