Cash Flow Management for Contractors

Cash flow is also one of the best measurements of a company’s capability and performance of all of its people, policies and systems. The cash flow of a company is not merely a measurement of its performance from an accounting perspective – it is the measurement of the company’s performance as a whole.

Some of the unique aspects of cash flow for contractors include retention, lump sum contracts and multiple layers of contractors and suppliers. In addition, accounts receivable for contractors usually consists of a low volume of accounts with a relatively high dollar amount.

As with any organization, contractors should organize their cash management system around a plan or cash flow forecast. Such forecasts are typically well-suited to contractors given the level of job planning, schedule analysis and related issues that are common to construction projects. The cash flow for each job can be projected for each job. These individual job forecasts can then be rolled up to an overall cash flow forecast for the entire company.

In preparing a cash flow forecast for a job, the contractor should prepare a most likely scenario with which to effectively manage the job. Contractors should consider preparing other versions of the cash flow forecast to assess various “what if” scenarios. Most importantly, contractors should consider a worst case cash flow scenario which can be used to develop a contingency plan in advance of any problems.

Many items discussed in this article are common sense and will seem obvious, but they are frequently ignored or given low priority. Some factors for contractors to consider in effectively managing their cash flow include the following:

• Implement an accounting system that provides timely information to be used in forecasting. Interface all areas of the company in the process to help ensure thorough and accurate data.

• Negotiate to reduce contract retainage terms, particularly in situations in which the contractor has a successful prior relationship with the owner.

• Use reasonable “front-end loading” techniques in preparing the schedule of values to provide better cash flow on the project in early phases. This will help ensure adequate cash to perform the work if, for example, unforeseen site conditions are encountered with front-end excavation.

• Set the tone for open communication regarding cash flow among all relevant parties to the project. Openly discussing cash flow during pre-construction can better establish expectations, timing and procedures that will help start the job off on the right track. Ensure that any ambiguous terms or billing requirements are discussed and resolved to avoid payment delays as the job progresses.

• Thoroughly understand the contract terms and requirements. Then establish a strong system to work within these requirements. Contractors must be aware of how many copies of invoices to send, who to send them to and what details to include. Also, contractors need to know what action steps to take if an invoice is “kicked back” due to a deficiency or if a short payment is received.

• Know the owner’s requirements for processing and approving payments for “extras.” Understand the pricing and the documentation needed to justify payment for extras. Generally speaking, it is advisable to establish a separate cost code or other means to specifically track work that is outside the scope of the contract. This will facilitate quantification and documentation when the invoice is prepared.

• Subcontractors should request a copy of the general contractor’s contract with the owner and should understand key provisions regarding payment. Although the subcontractor is technically working for the general contractor, ultimate payment will come from the owner so it is important to look at the relationship between the owner and the general contractor.

Ultimately, construction contractors depend on solid relationships with owners, sureties, banks, developers, subcontractors and suppliers. Communication is critical to the success of the project and to the ongoing success of the contractor. A discussion of cash flow must be a part of this communication so that expectations are understood and can be met. Above all, contractors should be proactive in preparing billings and aggressive in pursuing collection of accounts receivable.