To review annual performance, contractors consider various factors, but typically, the top and bottom lines define performance. While these are key indicators, cash flow is just as critical to performance and a contractor’s overall success.
In times of prosperity, contractors may dismiss cash flow issues more easily because work is abundant and cash levels are steady. But during a downturn, cash flow rules every business decision.
Revenue is necessary in any business, but in construction, if daily cash flow needs aren’t met, even large contractors can fail. This leads to the question, “How can contractors with strong revenue find themselves with cash flow issues?”
Evaluating cash flow by job is the easiest answer to that question. For each job, contractors should consistently review the billing and payments process in conjunction with each other to see whether they have positive or negative cash flow. They should:
- Review the amount billed on a job minus receivables on that job to determine the cash collected.
- Review the contract cost minus payables on the job to determine the cash paid.
The difference between cash collected and cash paid is the net cash flow position – on that job. Using this method, the contractor can quickly pinpoint the cash position on each job and identify problem jobs that may cause cash flow issues for the entire business.
Contractors with cash flow issues must make adjustments immediately:
- For billings, contractors must monitor how quickly customers are billed and whether the customers pay on time. They must constantly monitor the receivables aging to identify delinquent accounts and contact the customers for payment.
- For payments, contractors must review when their companies make purchases and how quickly they pay vendors. Contractors pay invoices on certain terms, but discounts may be available if paid early.
Job-specific cash flow can determine when contractors should pay invoices. Even high-margin projects can run into cash flow issues if contractors mismanage the timing of payments and billings. If several jobs have large upfront costs, contractors have to plan accordingly, or cash flow could cause major issues.
One way a contractor can alleviate some stress of cash flow timing is to open up a line of credit. The additional financing gives the contractor some leeway and reduces the pressure to perfectly coordinate collections and payments.
A line of credit can be a useful tool, but a contractor should avoid using it as long-term financing. Such use could lead to problems down the road from which the contractor might not recover.
Monitoring cash flow consistently ensures a company’s success and stability – in good times and bad. In any economy, even with excellent work, a sterling reputation and steady top and bottom lines, sometimes the only factor between success and failure is solid cash flow.
Reprinted with the permission of CPAmerica International. For more information contact: Randy Rupp, CPA, CCIFP, Mueller & Co., LLP @ rrupp@muellercpa.com
