As Construction Faces Uncertainty, Cash is King

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Cash Flow Management Critical to Stay Afloat

By Mark Barnett, CPA, CVA, CGMA, CCIFP, MBA, Partner & Construction Industry Leader

States are struggling with the timing of reopening and the appropriate phases for their economies now following the COVID-19 shutdown. While contractors are busy working through the backlog of projects they have booked in the past 18 to 24 months, once those jobs reach completion finding work to refill their pipelines may prove more difficult than it has in recent years.

Over the next two years, contractors who specialize in the industries hardest hit by the COVID-19 shutdown – office, retail, hospitality, and entertainment – will find it slow going as planned projects are delayed or cancelled because of the economic downturn in those industries. Others who specialize in the technology and logistics sectors may have a better time of it as the rapid adoption of remote work benefits the likes of Amazon, FedEx, and their suppliers.

Most sureties are bracing for a potential slowdown in the industry and are planning to mitigate their risk exposure by limiting the amounts of bonds they are writing and by tightening the credit requirements for obtaining those bonds. This makes contractors’ financial positions, working capital, and, especially, cash imperative to their ability to obtain surety credit and meet the costs of obtaining that credit.

Now is the time for contractors to prepare for the coming uncertainty by carefully managing cash flow.

 

Protecting your working capital is key to qualifying for bonding in a tighter market and staying afloat if things get tough, and there are several strategies for you to consider:

  • Cash is king. Make sure you’re strong on cash and working capital. It will help you weather the storm and get the bonds you need.
  • Maintain your margin. Avoid the temptation to chase volume at the expense of margins. Be selective about the jobs you pursue. One bad job can cost you a lot of money and eat through your working capital.
  • Don’t be afraid of debt. If you have long-term debt with low interest rates, now may not be the time to pay it off. If you have $1 million in long-term debt and you pay it off, your working capital drops by approximately $1 million. You might need that cash to make it through the next 24 months, particularly since you don’t know what the financing picture will look like eight or 10 months from now.
  • Pay close attention to your estimating, bidding, and margins. Cost containment and margins are crucial right now. And if volume decreases, margins need to increase to absorb your overhead costs.
  • Talk with your bond agents often. Work with them continuously on what you have going on, what you are bidding, and what levels of equity and working capital you need to 1) obtain the types of jobs you want and 2) maintain your profitability in the coming months.
  • Stay in your wheelhouse. If you specialize in a certain industry, now may not be the time to try to dabble in something else unless it is absolutely necessary.
  • Focus on collections. Work to collect your contract receivables now. If you’re stuck holding receivables and the economy goes further south, you’re not going to be first in line, the bank will. You’ve earned that money – go out and get it while you still can. Contract receivables are an asset, but you want the cash, not the receivable.
  • Take a holistic view of your finance and tax picture. Don’t just focus on minimizing taxes when you’re making decisions that will affect your working capital and especially your cash. Contractors who buy equipment can take advantage of 100% bonus depreciation to defer state and federal income taxes. So, maybe you have $1 million in taxable income and you buy $500,000 worth of equipment in hopes of minimizing your income taxes. You saved approximately $200,000 in federal and state income taxes, but now you’ve wiped out $500,000 of your cash and working capital. Having that cash and working capital could be paramount to your operations. Right now, you can most likely get a very low or zero-interest loan to pay for the equipment. In that scenario, you get the best of both worlds.

At the end of the day, it’s all about carefully managing your cash flow so you can preserve your working capital. Working capital is one of the critical factors bond agents and sureties look at, and it will be key to helping you weather a downturn in the economy and/or the construction industry.

If you would like an evaluation of your cash flow management and how you can shore it up, please contact your Adams Brown advisor.