When hiring a contractor, nearly everyone is looking for the same outcome: a successful completion of the work for the best (lowest) price possible. It’s instinctual for our minds to ponder how we can save money on the total cost of construction through whatever means possible. This commonly manifests itself through choosing the “cheapest” contractor right from the start, but there are many other ways that clients and general contractors alike try to save some cash when it comes to hiring contractors. One of these ways involves purchasing the materials directly, rather than leaving it to the contractor that’s being hired. Why? Markup. When we receive a proposal from a contractor, their price typically includes labor, equipment and material costs – all of which are then marked up higher to include the contractors’ overhead and profit margins. Clients can therefore save money by buying materials for contractors directly; if clients or general contractors buy the materials, the contractor (or subcontractor) won’t be able to charge overhead and profit on top of these material costs. This means the client gets to keep that money in exchange for buying the material themselves. That’s a big win…right? Well, that depends. While there are certainly some benefits to buying materials for contractors ourselves, there are also some potential drawbacks. Let’s go through the pros and cons!
Pro #1: Saving On Contractor’s Markups
As we outlined above, the biggest benefit for clients when buying materials for contractors is the ability to save on markup. When contractors price a project, they add overhead and profit margins on top of all their costs – including materials. This is standard operating procedure and is no secret to anyone in the industry. Some owners and general contractors elect to purchase materials for contractors on all of their projects, simply for the cost saving opportunity.
For example, suppose you receive a proposal from a contractor for $1 Million to construct a new building. This figure includes all labor, equipment and material costs for the work, plus overhead and profit. Let’s imagine that the cost of the materials to the contractor will be $250,000. Assuming a 25% markup for overhead and profit, the contractor’s price to their client, including this 25% markup, will be $312,500 [$250,000 x 1.25].
By the client electing to purchase all materials themselves, this contractor’s $1 Million proposal will be reduced to $687,500 after subtracting all material costs and markups [$1M – $312,500]. The client will still need to spend $250,000 to purchase all materials, but they effectively save $62,500 on the contractor’s overhead and profit by doing so [$312,500 – $250,000].
This is a simplified example, but it illustrates the point – through buying materials for contractors, clients can potentially save big.
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Pro #2: Vendor Selection & Freedom To ‘Shop Around’
Many contractors have close business relationships or even partnerships with a specific material vendor. When bidding on a new project, it’s not uncommon for a contractor to price materials through their preferred vendor only, regardless of whether or not they’re the lowest price in town.
So long as the contractor carries this vendor’s pricing in their proposal, they are less inclined to try to save a little more money by going with another vendor instead after getting the job. This is especially true when considering that vendor-contractor relationships are about more than just pricing – they’re also dependent on frequency and size of orders, lead times, logistics (deliveries, hours, shipping/handling) and other similar factors.
One of the benefits clients enjoy when buying materials for contractors is the ability to shop around between several vendors to find the best deal overall. An owner or general contractor has complete control over choosing a vendor in these instances, and they’re free to get pricing from as many vendors as feasible to find out where the best price is. They can also consider other factors, like proximity to the project, purchasing terms and the like.
Rather than being stuck with whichever vendor the contractor chooses, clients are at liberty to shop around.
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Pro #3: No ‘Middle Man’ Involved In Procurement
Contractors act as the go-between or ‘middle man’ on projects in many ways. For instance, contractors are responsible for hiring and coordinating all labor forces needed to perform work. While the client is technically the one paying labor crews, given that clients pay contractors for their service who in turn pay their workers, it’s the contractor who’s actually responsible for sourcing, hiring, coordinating and paying the workers.
The same can be said for materials, at least in the traditional construction process. When the contractor is expected to purchase materials, they’re also the party who’s expected to find vendors, place orders and coordinate getting materials to the site. Clients place a great deal of trust in their contractors’ ability to correspond with vendors, order the appropriate materials and get them to the job site quickly enough maintain workflow.
Unfortunately, this process doesn’t always run smoothly. When buying materials for contractors directly, clients have a lot more control over this procurement process which can be advantageous for avoiding these troubles.
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Con #1: Ordering Proper Quantities
In order for a contractor to estimate construction costs, they’ll need to have a reasonably accurate idea of how much material they’ll need to buy. Contractors must factor in coverage, waste, shelf life and more. If a contractor orders too much material, a lot of it will go to waste. If they underestimate how much will be required, they’ll not only need to scramble to buy more but also risk going over their budget.
When the contractor is responsible for ordering their own material, these details don’t matter to their client. Too much, too little – whatever. So long as the proper amount of material is used in construction and procurement doesn’t delay the work, these details have no effect on the client.
What about cases where clients are buying materials for contractors, though?
This situation poses a few risks. If the client orders too little, the contractor may be delayed while waiting for more to arrive. In a ‘normal’ project setting, the responsibility for this delay would fall on the contractor – not the case when clients are in charge of procurement! If the client buys too much material, they’ve not only overspent in terms of budget, but they’re also stuck with a bunch of extra material that they likely can’t return, won’t use and will have to pay to dispose of. Even when the contractor is responsible for determining material quantities, the client is still subject to risk of exceeding their budget via the contractor’s estimate being wrong, unless the contract has specific provisions stating otherwise.
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Con #2: Storage & Logistic Requirements
Storing material onsite is often a logistical challenge – some projects can’t allow contractors to store more than a weeks’ worth of materials onsite at any given time, while others require that contractors only bring to the site what they can install that day. Every project is different and some sites have more than enough storage space, but storing materials is something just about every project requires to an extent. The same can be said for shipping, handling and delivering materials – it’s simply part of performing the work.
When clients are buying materials for contractors, they’ll need to figure out the logistics ahead of time. Is there enough room to store materials onsite? Are the clients’ vendors able to store material for them? Does the client have their own space to store materials offsite, or will they need to rent space to do so? Who will be responsible for getting materials to and from the site? These are questions that arise when clients go the route of buying materials for contractors, and they all have a cost implication to them.
While the initial savings on contractor markups seem tempting to clients, this savings can quickly be depleted by storage costs, logistic costs (deliveries, trucking, handling) and/or the clients’ time and effort towards managing the process. In turn, it’s not always as advantageous for clients to buy their own materials as it may appear – it all depends on how the project is set up as a whole.
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Con #3: Liability
If buying materials for contractors seems like a home run for clients, they should first consider the liability they’re taking on. Materials can be manufactured in a defective manner, change in price (market fluctuation), go out of stock, expire, get ruined and so forth. Given that materials are expensive, sensitive and essential to the construction process as a whole, there’s quite a bit of liability that surrounds them.
When contractors are in charge of material procurement, the client doesn’t have nearly the same level of risk. Sure, clients are always at risk when hiring contractors to perform work, but the risk is considerably less when construction companies are contractually obligated to handle certain things.
While buying materials for contractors directly can be the right move for clients in some cases, it’s far from an easy way to save money!
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The Sweet Spot
Every project is different and this isn’t legal advice, but I’ve personally found that clients and their contractors can hit a ‘sweet spot’ by setting up their project in a fashion like this:
- Agree on an overhead cost figure with the contractor up front. For example, a fixed 15% overhead margin on top of all material costs, or a flat lump-sum overhead fee.
- Clients then agree to purchase materials themselves in exchange for the contractor no longer charging profit on those costs. The client keeps the difference.
- Given that contractors are still paid their overhead, clients can pay for the material themselves but allow the contractor to coordinate all logistics, deliveries, handling and storage – essentially managing the procurement process. Their overhead margin is used to cover this.
- This way, the client enjoys a bit of savings on the contractor’s material pricing (no more profit markups), while removing themselves from the logistics of buying it through still paying an overhead fee.
I’ve managed projects where similar arrangements have been used with success, but there are many different ways to set up a project at the end of the day. Whatever the case may be on your next project, you are now armed with the knowledge of why clients can benefit from buying materials for contractors directly, along with why it’s not always as good as it may seem. I hope you enjoyed this article, thanks for reading!
