• Luke Loescher

The Top Seven Financial Mistakes That Construction Companies Make

Construction projects can be time-consuming, and purchasing substantial amounts of materials and employing upfront labor may lead to a slew of financial difficulties. The following are some of the most common financial issues and mistakes we encounter in our work with construction firms.

  1. Doing Work Without Documentation Construction businesses frequently make a common financial mistake by doing extra or new work without documentation. Construction is quite hands-on, which means that a lot of decisions and modifications are made on the site based on a brief discussion and a handshake. Frequently, this subsequent work isn't recorded in writing via a formal change order before it's completed. If the modification does make it to the office for documentation and invoicing, it's typical for pricing to have already been discussed on-site and invoiced without crunching numbers. This frequently produces little or no profit for the additional effort. Unrecorded changes lead to an extra cost for the contractor that may or may not be charged in the end. Why is this an issue? Inaccurate changes or those that have been invoiced at a loss might result in lower profit margins or even project failure. How to fix it: Construction firms may use new processes to make mid-project modifications easier. A thorough scope of work and a rigorous change-order procedure, which is in place before the project starts, help with this problem. This procedure should allow time for the contractor to prepare pricing rather than making decisions on the fly; as well as document project changes, approvals, and sign-offs.

  2. Invoicing Late & Missing Bank Draws Invoice submission deadlines for a monthly bank withdrawal are common. If you miss the deadline, it might be several months before you can submit your invoice to the bank and pay it off. Why it’s an issue: Late invoicing does not indicate that your employees or suppliers will just sit around and wait for their payment. If late invoicing has become a standard procedure in your firm, you're probably having to front or float expenditures until the invoice is paid. This not only increases your financial risk, but it also decreases the amount of money available to put towards additional bidding, subcontracting or purchasing. How to fix it: If your company is experiencing this problem, find out why invoicing deadlines are being missed and work towards improvement. One of our construction accounting experts can help you track down the cause of late payments by reviewing your A/R aging reports on a regular basis.

  3. Misunderstanding Costs Not having a clear knowledge of costs is one of the most prevalent construction industry blunders. A construction firm should have extensive understanding of down-to-the-minute prices. Equipment and administrative expenses are also included in this analysis. Projects may be incorrectly priced if they lack this knowledge, resulting to jobs that will eventually result in money losers. Why it’s an issue: Without a thorough understanding of costs and procedures, you can't have an informed view of your profit structure. You're probably bidding some jobs too low, losing out on some projects you've bid too high, and may be missing undiscovered changes that if implemented would improve overall profits. How to fix it: You can start by implementing better cost-tracking systems. This will help everyone in the organization have a clear understanding of where money is being spent and how different tasks affect the bottom line. Additionally, our construction accounting experts can provide you with a better understanding of what costs to track and how to price projects for profitability.

  4. Misallocating Costs The error of mistaking expenditures is coupled with the incorrect allocation of costs. To get a more precise evaluation of profit, each project's expenses should be meticulously accounted for. A construction firm may not realize whether or not a job is really profitable without this data. A typical problem that construction firms may encounter is that they have some jobs that are highly profitable and others that are not. While for many building firms, these projects equal "total profitable," without a deeper examination, companies may be leaving money on the table and missing out on a higher level of profitability. Why it’s an issue: Having complete financial data to make more educated and strategic business decisions requires accurate cost accounting. This begins with a precise allocation of expenses. Better understanding costs may help you create more efficient earnings across all projects, resulting in a more successful business. How to fix it: A CFO can help you improve your system for predicting and allocating expenses, as well as refine your vendor agreements and service contracts. They can also make strategic changes to optimize earnings and accelerate long-term growth by improving efficiency in the business.

  5. Fixed Material Cost in Bid Contracts Some contractors have included the power to change material costs in response to market changes into their contracts, while others haven't. When steel prices surged a few years ago, for example, some businesses saw material expenses rise almost instantly, and many had to absorb the cost since they could not pass it on to the customer. Why it’s an issue: Changes in the business environment, especially in today's manufacturing climate, move swiftly. This might imply taking a loss that you weren't expecting if you don't have language in place to account for unforeseen changes. How to fix it: To enable cost adjustments based on market pricing, include language in your service contracts. Some construction firms use standard language to avoid confusion and distrust with clients by stating that if the material price changes by a certain percentage, then the additional expenditure will be charged to the customer.

  6. Insufficient Cash Reserves For smaller construction firms, cash flow may be a major problem. They might not get some money in for up to a year depending on where they are in the building process and how big the work is. If a construction firm doesn't have sufficient cash reserves to deal with this, it may be forced to take out expensive loans or postpone critical payments such as payroll. Why it's an issue: It's hard to keep a business afloat when you're constantly missing payments and taking on more debt. This can result in missed opportunities and even bankruptcy. How to fix it: You can start by looking for ways to bring in more money, such as increasing your prices, finding new clients, or seeing if you can collect the money that your customers owe. We've seen construction firms cut costs and increase their efficiency, which has helped them build a stronger cash flow foundation.

  7. Front-Loading Costs Front-loading costs are a final common problem that construction firms confront. This is the tendency to utilize money earned from one job to pay for the expenses of a subsequent building project. This frequently happens because of a faulty project, such as one that was incorrectly bid or suffers from delays or labor overages. The company will scramble in order to “make up” for the shortfall that was created, often leading to cash-flow problems. Why it’s an issue: Taking funds from a second project to pay for the first one might put the firm in jeopardy of not being able to complete the second project, risking both projects. It may also harm relationships with other clients since this misallocation of their project funds could lead to a lack of funding for their own project, resulting in delays or temptations to cut corners. How to fix it: Front-loading is frequently the consequence of poor project planning, incorrect bidding, or a lack of a timely and robust forecast. Bids should ensure that early phases of a project estimate match the value of the work done. Rolling forecasts for each project and including a contingency in bids for later phases can both help manage or eliminate front-loading risk.

How can we help?

Do any of the following problems plague your building business, or do you have a question about one that isn't mentioned here? We can assist you. Our outsourced CFO team has a number of CFOs who are experts in the construction sector. To talk about your difficulties with a CFO, contact us now or schedule a free consultation.

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