What is Construction Cash Flow?
Simply put — cash flow management is a critical aspect of any construction project, regardless of its size or scope. According to Buildertrend “Cash flow refers to the movement of money into and out of a construction project over a specific period of time. Effective cash flow management is crucial for the success and sustainability of construction projects. It helps ensure that there are sufficient funds available to cover expenses and that the project remains financially viable from start to completion.”
Why is Cash Flow Important in the Construction Industry?
Cash flow affects a project’s ability to meet financial obligations, maintain cash reserves, manage risk, and stay on schedule. A positive cash flow helps contractors pay for materials, labor, and other expenses on time, avoiding delays and interruptions in the project. It also enables contractors to invest in the project’s growth, such as hiring additional workers or purchasing new equipment.
Cash flow also helps to identify potential financial risks early, allowing contractors to take appropriate measures to mitigate them. For example, if a general contractor anticipates a late payment from the client, they can take steps to reduce expenses or secure alternative sources of funding to ensure that the project stays on track.
It is still common for construction companies to pick up the tab on large expenses continuously through a construction schedule. Without a positive cash flow to cover these expenses, project timelines can derail, causing overruns and narrowing profit margins.
Common Challenges with Cash Flow in the Construction Industry
Construction companies face more cash flow challenges than almost any other trade. Cash flow can create problems when a construction company doesn’t have enough to cover costs when bills are due. Here are some common challenges facing the industry:
Clients Slow to Pay
If clients are taking longer than expected to make payments, it affects cash flow. Slow payments are one of the biggest cash flow challenges in construction. Delayed payments typically happen as a result of disputes over contract terms or changes in project scope, or can be traced back to issues in the construction billing process.
Cost Overruns and Overhead Expenses
Another common cash flow issue in construction is cost overruns. Unforeseen expenses or changes in project scope can cause costs to exceed the budget, which can strain cash flow and make it difficult to cover expenses. Additionally, overhead fixed expenses such as utilities, rent, and insurance can put a strain on a construction company’s cash flow. Since these costs aren’t typically tied to a specific construction project, they can have more impact on profit margins.
Inaccurate Budgeting
Inaccurate construction budgeting is another big challenge in the industry. Project managers may underestimate expenses or overestimate cash inflows, creating cash flow gaps and making it difficult to cover expenses. Inaccurate estimates lead to surges in hidden costs, which can quickly move a construction accounting ledger from black to red.
Materials and Equipment Shortages
Managing inventory can also be a cash flow issue in construction. Shortages in materials and equipment can result in project delays, increased costs and cash flow issues. If a delivery is on hold, then the next steps in your construction schedule can get pushed back. If inventory is not managed properly, it can tie up cash flow and make it difficult to cover expenses.
Pro Tips for Optimizing Construction Cash Flow
Monitoring and tracking cash flow is critical in effective cash flow management for construction projects. By monitoring and tracking cash flow, contractors can also ensure that they are staying within budget and that the project is on track. Various tools and techniques available for tracking cash flow in construction projects include cash flow software, spreadsheets, and financial management tools. Contractors may also use financial statements, such as cash flow statements and balance sheets, to track cash flow.
Here are some pro tips to optimize your construction cash flow:
- Accurate Budgeting and Forecasting: Develop detailed project budgets and regularly update them to reflect actual costs. Use forecasting tools to predict future cash flow needs and plan accordingly.
- Efficient Invoicing/Online Payment: Implement a streamlined invoicing process to ensure timely billing. Use automated software to reduce errors and speed up the invoicing cycle. Make project management software your one place to pay and get paid. According to Buildertrend, “When their builders take things online, they get paid 16 days faster.”
- Prompt Payment Follow-Up: Establish a system for tracking receivables and follow up promptly on overdue payments. Offering incentives for early payments can also help maintain a steady cash flow.
- Negotiating Supplier Terms: Build strong relationships with suppliers and negotiate favorable payment terms. Extended payment periods can help align outgoing payments with incoming cash.
- Monitoring Expenses: Keep a close eye on project expenses to avoid overruns. Implement cost control measures and regularly review financial reports to stay on top of your spending.
- Maintaining a Cash Reserve: Set aside a cash reserve to cover unexpected expenses or project delays. This buffer can help you navigate cash flow fluctuations without disrupting operations.
- Utilizing Financing Options: Explore financing options such as lines of credit, loans, or factoring to bridge cash flow gaps. Be strategic about when and how to use these options to avoid excessive debt.
By following these pro tips, construction companies can improve their cash flow management, ensuring they have the financial stability to complete projects successfully and grow their business.
Learn More About Cash Flow with METALCON
Ready to take a deeper dive into managing cash flow for your business? Look no further than METALCON for either in-person or online continuing education.
Register to attend METALCON 2024 in Atlanta, Georgia, October 30-November 1, and get “real-time” advice from Thea Dudley, one of the nation’s leading experts on AR management in the building material dealer and construction space, at her session, “Accounts Receivable and Cashflow Assessing: Shooting down the Top 10 Cashflow Killers.”
Does your business have plenty of work and outstanding invoices, yet you still struggle with cash flow? You are not alone. Businesses across all industries face this challenge. So why does this happen, and how can you fix it?
With more than 30 years of credit management experience in the LBM industry, Thea is a credit management survivor in the building material and construction industry. In this session, she will clarify and explore the top 10 cashflow killers to a construction industry business and how to resolve them effectively, efficiently, and with little pain. Learn why on-time invoicing matters, the importance of knowing who you are doing business with, best practices to collect money on time, and more.
Register for METALCON’s Construction Cash Flow Education Session today.
Also available in the METALCON ON DEMAND video library, the recent webinar, “Improve the Profitability and Cash Flow in Your Construction Business,” covers the 5 biggest financial challenges facing the industry. Shelby Ashley with Optimized Financial Solutions explores why profit is more important than revenue and why cash is more important than profit.
Both of these sessions are approved for 1.0 AIA LU AIA Continuing Education Credit.
