There are several pitfalls on the road to maintaining a positive cash flow that even experienced construction business owners encounter. Cash flow management in the construction industry involves several unique challenges, including long periods between billing and collection, as well as unpredictable events related to weather, suppliers, and contractors. Any mistake in this process can have serious consequences for your business.
Awareness is the key to making your cash flow management work for your overall business state. Here are some of the most common mistakes in managing the cash flow of a construction business.
1. Not having a cash cushion
There are few things worse in business than having large unforeseen expenses, and in the construction industry, this happens all the time. The industry relies on accurate estimates and forecasting but deviations are common. Unexpected expenses will happen so all cash flow managers need to be prepared by having a cash reserve.
One major reason why construction businesses need a cash reserve is seasonality. The construction industry experiences peak seasons and slow times all throughout the year. Weather conditions also impact the start of the project, its duration, and whether it’s going to be on time or delayed. This makes construction businesses vulnerable to cash fluctuations. Without a cash cushion, the business will suffer a negative cash flow.
It is an absolute must for businesses to have cash reserves for contingencies. The unexpected is guaranteed to happen. When things go wrong, that cash reserve will keep your business in operation. Start building your cash reserve today.
2. Passive collection of receivables
The construction industry is notorious for having a lengthy period between billing the client and collecting payment, as well as payment delays and nonpayment. If you are passive in contacting clients and collecting receivables, they will be more likely to stretch pay periods and delay paying you.
For better cash flow management, you need to hit your accounting books and check customer accounts that are due. Start making calls and sending follow-up emails to these clients, especially those that may turn delinquent. If possible, impose additional fees for late payment to incentivize clients to pay on time. Of course, it’s always prudent to send preliminary notices to your clients to protect you. Preliminary notices secure your right to file a mechanics lien in case a client ultimately fails to pay. This should not be seen as a threat but just part of the professional way business is handled in construction.
To ensure the timely collection of receivables, include a billing schedule in your contracts and follow it. This way, clients know when to expect the invoice to arrive, keeping your company at the top of their minds.
3. Poor data quality
The construction industry has a problem with maintaining good data quality. Since the industry is one of the least digitized in the world, it is slow on the uptake of tech solutions that make data management easier and more organized. Not only does this cause inefficiency, but poor data management also affects a company’s bottom line.
One common example of poor data management is errors in data entry. A client may mistype their contact information or an employee may put a different address accidentally. These errors will cause delays in processing. The invoice may be sent to the wrong address, resulting in delays in payment if not detected immediately.
4. Closing deals without vetting the client
A fairly common mistake in the industry is granting credit without vetting the client. It is important to check a client’s history or else you may face the risk of nonpayment.
Getting references is a surefire way to check a client’s history. Ask your contacts if they have partnered with a potential client before and if they have a history of timely payments. There are also online resources that you can check that include court records and notices of liens regarding the potential client. Finally, you may also refer to reviews and complaints that may have been posted against them.
Cash flow management is a huge challenge for all business owners. Don’t let your business be trapped by these common pitfalls. By taking note of how these mistakes can affect your business, you will be able to avoid financial issues and keep your company afloat.
About the Author:
Chris Woodard is the Co-Founder of Handle, where they build software that helps contractors, subcontractors, and materials suppliers secure their lien rights and get paid faster by automating the collection process of unpaid construction invoices.