3 Keys To Contractor Cash Flow
It’s an old saying: “Cash is king.” More than ever, this saying is relevant to contractors as margins continue to tighten and the amount of work generated by new construction continues to remain relatively flat. Negative cash flow is the No. 1 reason why contractor businesses become insolvent, and so a primary business objective must be to keep operations in the black.
Nearly everything a contractor does affects cash flow. From bidding to buying, from labor to inventory, staying solvent and turning a profit is a complex juggling act with many balls to keep in the air. Running a contracting firm is not becoming less complex, but by focusing on three ways that business is managed, contractors can stay ahead of growing complexity.
1. InformationThe first step in managing for a positive cash flow is knowing your true cash situation. This is a deceptively simple statement. A useful view of cash position involves much more than looking at budget vs. actual reports. For example, consider Figure 1. Should the contractor managing this job feel good about this cash situation? The answer is there is not enough information to tell. At the point in time indicated on the graph, a number of things might be true that would make this an at-risk job. Perhaps only 10 percent of the work has actually been completed. Alternatively, the accounting for committed costs may not be accurate.
To accurately evaluate performance, contractors must take a deeper look into the status of each job, both from a performance and a financial standpoint. This means gathering and reporting on actual work-in-progress information. With this information in hand, the contractor can make decisions based on the true state of affairs in each job. In Figure 2, the addition of one more key piece of information - the budgeted cost of the work completed - changes the picture for this job. In this example, the costs incurred to date are less than scheduled, but more than they should be, given the amount of work completed.
Other factors play into a complete view of a job’s current cash status and its profitability projection. Committed costs, change-order approvals, liquidity and other variables should all play a part in evaluating the health of a project. The key is to have a plan in place to capture as much WIP data as possible, and have the tools in place that help summarize and present this information in a clear and concise format.
2. ProcessIf having adequate information on job costs is the first step to positive cash flow, the obvious second step is to do something with that information. Again, this is a simple statement that can be difficult to implement. Two realities of contracting make mid-project corrective action even more difficult: the separations that exist between parts of a company and the commitments made at the start of every job.
If the process for communicating between jobsites and the office has a built-in delay, such as paper reports that are hand-delivered whenever managers or technicians find the time, then the ability to take corrective action in a timely fashion is compromised. If information is shared among groups using different systems - from sticky notes to spreadsheets to custom software - then this information must be re-entered each time it is shared, introducing error and taking valuable time. And if the group providing information is not the group that needs to use this information, then the completeness and timeliness of sharing will always be less than ideal.
Implementing new business processes and workflows is the first step toward closing these gaps. Breaking down barriers between groups requires more than just passing information between them. When processes require that different groups use the same technology to enter and access data, then they will do their work and make decisions based on the same data. Work will flow more smoothly through an organization. Information systems and software have existed for some time that make this type of internal collaboration possible. Now new technologies, such as cloud computing, are emerging to make it more than possible. Internal collaboration is finally becoming easy.
Having a consistent, repeatable process in place to create accurate bids is important, regardless of the basis for billing. One poorly created estimate for fixed bid work can sink a contractor. Enough under-estimated T&M jobs can ruin a contractor’s reputation and chance for future business. Many factors go into the creation of accurate cost estimates, but one that is frequently omitted from the process is historic performance.
Contractors who exercise best-practice job estimating maintain detailed historical records on job performance that inform the creation of new estimates for similar work. This requires not only detailed WIP information, but a commitment to incorporate this information into the job-estimating process. By doing so, course corrections required in past jobs will be factored into new work, reducing the need to take corrective action to remain cash-flow positive.
3. FocusOne playing field in business is absolutely level - time. Every company shares a common number: 2,080. This represents the number of work hours in a year, and how contractors choose to use this time is the biggest differentiator between competitors.
It’s obvious there will never be enough hours in the day or resources available to do everything. Companies that take on too much - either on purpose or because they simply take on work as it presents itself - wind up facing two problems. They spread themselves too thin to be effective and they don’t differentiate themselves from their competition.
The first problem is easy to understand. Taking on any and all types of work without a strategy inevitably puts a company in situations where it does not have the resources or expertise to get work done on time or at all.
The second problem is less obvious but equally important. To succeed, a contractor has to rise to the top. He has to be the contractor at the top of the list in the selection process for work, and be there enough times to keep business moving and growing. This means standing out from the rest of the competition.
Advertising, promotions or lowered pricing can win short-term attention and some jobs, but unless this attention is leveraged by standing out as different and better than the competition, there will be no long-term return on these investments. There are many ways to differentiate a business, but all contractors who stand out from the pack share one common characteristic. They have chosen to focus on a type of work or a way of doing work. Their focused approach to business allows them to deliver better quality, competitive prices and superior service. As a result, they gain an asset that no amount of advertising or promotion can buy - a loyal customer base that refers new business.
To paraphrase an old saying, successful companies tend to look alike, but unsuccessful companies come in many varieties. This is because success means keeping many balls in the air at the same time, but there are many ways to drop one, two or more. When the economy is more forgiving, companies can take their eyes off a few balls and remain solvent.
But whatever the economic conditions, companies that ensure a smooth flow of information across their organizations, establish processes to improve and track workflow, and focus their efforts where they are strong in order to build a loyal customer base - these are the companies with positive cash flow and increased growth.