How to Improve Cash Flow in Construction
The old saying “cash is king” is true. It is vital for a construction contractor to generate positive cash flow on a monthly basis. Paying employees, subcontractors, and suppliers on a timely basis can only be accomplished when a contractor prioritizes income and expenses. A construction company that is consistently operating at a loss might fail. However, a company that is consistently suffering from negative cash flow will definitely fail.
Here are a few tips that can help you understand and manage cash flow in order to maintain strong working capital for future projects.
Understand What Drives Your Cash Flow
Reviewing balance sheets and income statements are very important, but reviewing and understanding your cash flow report will help your contracting business better understand the sources and uses of cash during specific time periods. This will help in better understanding how your cash flow is being used and whether your business is building or draining cash.
Spread out costs
Unless receiving a steep discount, your construction company should purchase materials and supplies using financing. Obviously, this could mean paying interest, but it will spread out required payments, which will leave more cash in the business for operations.
Shop for the Best Prices
Every supplier wants business. If you let them know you’re shopping for the best offer, a supplier is likely to give you the best deal possible, especially if you’re not bluffing and willing to walk away. By reducing costs, you’re freeing up cash.
This is a much different situation in construction than in most businesses. In construction, employees are almost always paid on a weekly or bi-weekly basis. To improve cash flow, you could hire subcontractors that only require payment every four weeks. This should only be done in special situations because you tend to get higher quality results from permanent, full-time employees.
Quickly Process Change Orders
Change orders are common in construction, and they’re often the result of a project requiring more time, money, and resources than originally planned. Bad weather also can play a role. You should process a change order immediately, rather than waiting until the project is complete. That money needs to be received quickly, which will positively impact cash flow.
Train the Project Manager on Cash Flow Management
In construction, 80 to 90% of cash comes from project work in progress, which means cash flow performance depends on the project manager’s cash flow management. In addition to training, an effective strategy is to offer an incentive to the PM based on cash flow performance.
Avoid Over-Billings and Under-Billings
Some project managers will take pride in over-billing. Since this means the invoice will be higher than the job completed to date, it will increase current cash flow. The downside is that it will reduce cash flow when the project is completed. If under-billing, cash flow will take a hit in the near term. The best approach is to bill according to how much of the project has been completed.
Speed Up the Receivables Process
All invoices should be automated and sent as soon as possible. If you want to maximize cash flow potential, send invoices ahead of time. Look for ways to better improve the collection process. Understand customer preferences for billing. Can the invoice be emailed versus mailed? Is all contact information for the customer up to date to ensure timely receipt of the invoice?
Having a goal greatly increases the odds of success. The average time it takes to get paid in construction is between 60 and 90 days. Strongly consider setting a realistic goal to reduce that number to 30 days. You can do this by sending immediate invoices, offering payment incentives, writing clear terms, checking credit reports prior to making any deals, and restructuring terms with non-payers.
You can also accept electronic payments to receive your money faster. This will increase cash flow and allow for more capital to be used for day-to-day operations, payables, and growth.
What are some ways that your construction company has improved cash flow?