Cash is King

Thomas C Schleifer, Ph.D.

For the duration of this disrupted market and potential for recession, move cash flow management to the top of your CFO’s priority list and leave it there. Contractors rarely have enough cash on the balance sheet to see them through down markets, particularly if banks pull back on their lines of credit which happens in market downturns. Borrowing against receivables shrinks to a trickle with less new business coming in and the common practice of front-loading payment requisitions drains cash out of ongoing work so the cash crunch can happen almost immediately upon a market downturn. 

Slow Pay

Contractors are unwittingly limiting their cash flow through timid business practices that have crept into our everyday management. For reasons I’m not sure I fully understand, we contractors have been accepting slow pay from architects and owners for as long as I can remember. Submitting invoices for completed work in progress has become a hit or miss proposition. The architect may approve the payment or may red-line it and send it back for adjustments, forcing us to resubmit the invoice and again wait for approval. If approved at that point, the invoice is then forwarded to the owner for payment who sends payment to the contractor when they are good and ready, often adding another thirty days or more to the payment process. Our industry has traditionally covered this cash shortfall (sometimes equaling 60 to 90 days which is a considerable sum on big jobs) by drawing down working capital lines of credit, ignoring the interest cost and overlooking the shrinking of available working capital. 

Retainage

When the job is wrapping up and the last payments are trickling in, the final punch list is often in contention causing the retainage to be held up until all the punch list and sometimes warranty work is completed. The cost of accepting late payments is bad enough, but the cost of late retainage can be staggering. When retainage is a substantial sum this cash drain alone has been enough to take some small to medium sized construction businesses under.  When a construction firm has cash flow issues, and the amount of retainage far outweighs the value of the missing items, many construction professionals give away value, negotiating in order to get paid. They often perform work they are not responsible for because arguing about it takes time and further delays payment collection. 

Steps To Improve Cash Flow

Slow pay and retainage withheld are an increasing problem during troubled markets. Too many people are allowing it to get worse by saying “We can’t do anything about it.” Interest paid on lines of credit required because of reluctance to pay and refusal to release retainage adds up quickly. If contractors were paid for their work on time, most of them would solve their cash flow problems overnight. Think “outside the box if the market turns down. “Battening down the hatches” begins with better cash flow management. Better cash flow management begins with the following steps:

1. Set the rules at the initial project meeting – You expect to be paid in accordance with your contract. Your contract states that. You have a right to and should demand performance in accordance with your contract.
2. Clarify payment procedures before the first requisition is due and make your requirements and expectations known – Do not be shy. Remind both architects and owners that you intend to perform in accordance with the contract and you expect them to pay in accordance with the contract.
3. Begin billing preparation well before the last day of each month – Whoever is responsible should be prepared to invoice on the last day of the billing period. Do not let sloppy business practices negatively affect cash flow. Invoicing late voluntarily extends the payment process.
4. Make the first requisition pristine with the exact quantity of work completed stated accurately. Avoid feeding controversy and slow pay with shoddy business practices. Resist trying to outsmart the owner’s or architect’s traditional impulse to reduce quantities and slow payments because contractors have always allowed it. State your case for prompt payment clearly and accurately. 
5. Collect your money on time – The active word being “collect”. If you don’t demand prompt payment you will never get it.

(I used these steps successfully for all the years I was in business. More than once architects or owners said, “If I knew you needed the money that badly I would not have given you the job”. I clarified, “This is a contractual issue not a ‘needs’ test”)

My Point-of-View

Cash flow is always a concern, but when a contractor’s marketplace weakens and his or her work slows down, cash flow can quickly become critical. If all of a contractor’s reserves are tied up in their receivables, they can be forced out of business. And when receivables are from outdated retainage and overdue payments, the contractor has only themself to blame. 

For an in-depth presentation on how to get paid on time see pages 128 to 136 in The Secrets To Construction Business Success Published by Routledge.

Next week we’ll talk about fitting overhead to existing business needs to improve cash flow.

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