Cash flow control poses a relentless obstacle for all sizes of construction firms. Many define the construction sector as being cyclical. Compounded with persistent payment problems that appear to be ingrained in the industry's DNA, mismanagement of cash flow can lead to failed projects — or worse, a failed company.
Contractors need to learn how to efficiently handle the cash flow. A major part of this is finding mistakes this affects cash flow when they occur — and then fixing them immediately. Below are some of the most common create cash flow errors to look out for.
Common Cash Flow Management Mistakes
1. Paying vendors before you get paid
No matter how big or small a project is, it's always best for your cash flow to restrict the cash that you're fronting for job costs. Although it is not always feasible to have enough upfront money to cover a job's start-up expenses, the next best option is to set up receivable accounts and accounts payable plans such that cash flow is freed up.
It's just the truth: You're putting all the financial pressure on yourself if you're paying vendors before you get paid yourself.
Now, it's easy to understand why this error is made by other construction business owners over and over — they empathize with vendors and realize how convenient it is when clients pay early. Being altruistic in that sense, though, will place you in the danger zone for cash flow. Extended terms of payment are a part of the game. Be sure that the terms of payment you send to consumers are, contractually, shorter than the terms you have with suppliers.
2. Not enforcing your credit policy (or not having one!)
Construction is an industry that is heavy on credit. This is why it is especially important to have a defined credit policy for all contractors. It's really easy to lose track of the cash flow and get in the red without a credit policy.
Let's describe exactly what a credit policy is. A credit policy is a document which describes in detail the following:
How to assess the creditworthiness of a customer
Rules and terms of payment for credit-approved customers
Incentives, if any, for early payments
Amount limits and time limits on outstanding accounts
Your lending policy is more than just a playbook. Designed to help boost your cash flow and maintain healthy working capital, these guidelines identify the amount of financial risk your company can safely handle and manage under your strategy.
The terms of credit set out in your contract often impact your cash flow. When you don't set and follow your set terms and conditions, there will likely be longer waiting periods before receivable accounts are obtained.
Review your A / R aging report annually to find ways to close the gap between the timing of receivables to payables so your cash can be better managed.
Note, customers are often going to prefer longer payment times because it frees them up to cash. It is in these waiting times between payments where you can face the brunt of the cash crunch.
3. Sales and finance are not aligned
Building success is essentially determined by expertise in two things: attracting clients and being paid, achieved respectively by sales and finances.
Departmentalize the revenue and budgets of rising businesses. Ideally, the whole organization should be on the same page as far as vision and business goals are concerned. However, not seeing eye to eye is very normal for sales and finance — mostly because their basic objectives may be at odds.
While salespeople seek to bring the most projects through the door for the most billable payment (revenue), finance is most interested in the financial risk and having the most collections (cash). If sales succeed in contracting on a shorter selling period, the outcome could be more cash tied up in project ventures and extended payment schedules. Of course, a good issue to have is increasing sales quickly. Nevertheless, trying to front so much cash for new ventures with less favorable terms of payment and credit would easily burn cash.
It happens because not on the same page are the sales and finance. It can wreak havoc on your cash flow and will. Here are some ways to address sales and finance misalignment:
- Set up a meeting where finance addresses the credit policies with the sales team
- Re-orientate the finance department with an emphasis on its position in supporting sales
- Set up monthly or quarterly meetings between sales and finance managers
- Use the software system or stack to streamline transactions, credit decisions, and collections
4. Poor data management
The initial presumption, when addressing cash flow problems, is often that this is a collection problem. Although this may be valid to some degree, bad data management is also a common issue.
Have you ever forwarded an invoice to the wrong address? Is there a connection point that does not respond? These problems are typically caused by poor management of the data.
Such costly errors can be avoided by constantly cleaning up and reviewing customer details and project data.
The Path To Better Cash Management
Cash flow control is a combination of compliance strategies and flexibility as the situation demands it. E-vite the burden of negative cash flow by getting acquainted with these four common mistakes. These form the origin of smaller, day-to-day accounting and operational problems impacting your working capital.
Take a careful look at your accounting procedures to determine whether you are making these mistakes so that you can properly adapt to handle your cash flow accordingly.
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