2019 Report Highlights Cash Flow Squeeze on Contractors
The construction industry is plagued by slow payments. On average, it takes 83 days for contractors to get paid - longer than just about any industry in the world. A 2019 report details how delayed payments create a cash flow vise for contractors. And how that vise is squeezed even tighter by the rise of retainage and disappearance of up-front deposits. Even when they’re keeping a close eye on it, cash flow problems can cause contractors to make risky financial decisions. Decisions that can disrupt their balance sheet and affect their ability to stay in business.
Only 4% of respondents always get a deposit upfront for work
Almost half of all contractors deal with retainage exceeding 10%
Over 40% of contractors say they pay their subs and suppliers before they get paid themselves
More than 50% of contractors report cash flow problems
Virtually 100% of contractors have threatened to file a mechanics lien to get paid
Contractors have a cash flow problem
Slow payments are difficult for contractors to manage. According to the report, more than half of all contractors say they struggle with cash flow. When cash isn’t flowing properly, unexpected costs can creep up that make it harder for contractors to plan ahead, much less stay in business. It’s crucial that contractors understand the impact that cash flow issues can have on their bottom line, and ensure that they’re accounting properly for it.
The disappearance of deposits
Deposits used to be commonplace on construction projects. Contractors received up-front deposits to meet initial expenses before the first project payments came in. Unfortunately, deposits have all but disappeared in the construction industry. In the survey, only 4% of contractors reported receiving deposits on their construction projects. To make matters worse, nearly half of all contractors pay their bills from subs and suppliers before they get paid themselves.
The rise of retainage
Cash is also squeezed by retainage. 57% of survey respondents say retainage is “always” or “sometimes” withheld (also known as “retention”).
Retainage, also known as “retention,” is a practice unique to the construction industry. Typically, the owner or GC will withhold 5-10% of each payment as retainage on a job. They only pay it after the entire project is finished. Some contractors report having to wait months, or even years, to recover retention - if they can collect it at all.
Profit margins in the construction industry already average under 5%. Since retainage is typically at least 5%, many contractors are actually losing money until they get the retainage payment.
Contractors resist repercussions at first
Relationships are important to contractors, to the point where they’ll give up profitability to preserve them. Even when payments are slow, contractors are reluctant to enforce any repercussions on the hiring party on a project.
In the survey, 78% of contractors say they “rarely or never” charge interest on late payments. In fact, more than half actually offer discounts to late payers in an effort to get any money at all.
Even while they’re extending credit to higher ups, contractors are going into debt to cover expenses while they wait to get paid. In the survey, 51% of respondents said they use business credit or savings accounts during a shortfall. Even worse, 34% said they use personal credit or savings to pay their bills.
But they’re not afraid to attack in the end
As long as they have protected their rights during the project, contractors generally have a last line of attack to get paid: They can file a mechanics lien. According to the survey, threatening to file a lien is extremely common: Virtually every contractor surveyed (98%) has threatened. More than half (58%) have actually filed a lien in order to get paid.
Accounting to attack cash flow problems
In order to know where you’re going, you have to know where you’ve been. A better understanding of accounting principles can help contractors look back at cash flow on previous projects, and predict cash flow pressure on upcoming projects. Using proper accounting, a contractor can:
Make more accurate cash flow forecasts
Plan for new projects
Speed up accounts receivable
Reduce accounts payable
Predict expenses for labor or supplies
Contractors may not be able to count on an up-front deposit, but they can count on expenses that they’ll need to meet before they get paid. As a result, construction businesses should expect immediate outflow of cash on a project.
Over time, accurate accounting can also help contractors prepare for retainage. When bidding on a new project, contractors will need to have enough cash on hand, or have access to credit that can help them through periods of negative cash flow. Depending on payment timing, contractors may even be able to use the retainage payment from a past project to keep them afloat during the next.
It’s important for contractors to understand the full carrying cost of late payments. If you’re using credit cards to make it through a project, but didn’t consider interest payments when you were estimating the job, you can put yourself in a cash flow bind. Contractors can forecast job costs more accurately when they understand the full cost profile of a job — including what it costs them to wait for payment.
Written by: Levelset Experts