Cash flow in construction

[edit] Introduction

In very general terms, 'cash flow' is the movement of income into and expenditure out of a business (or other entity) over time. If more money is coming into the business than is going out of it, cash flow is said to be 'positive'. If more money is going out, this is negative cash flow.

In construction, however, the term 'cash flow' typically refers to an analysis of when costs will be incurred and how much they will amount to during the life of a project.

Predicting cash flow is important in order to ensure that an appropriate level of funding is in place and that suitable draw-down facilities are available.

[edit] Client cash flow

Until the main contractor has been appointed, client cash flow projections are likely to be based only on agreed fee payment schedules for consultants and a simple division of the construction cost over the likely construction period (or perhaps an allocation of construction cost over an s-curve distribution). It is only when the main contractor is appointed, a master programme prepared and some form of payment schedule agreed that cash flow projections become reliable.

Cash flow projections may be affected by the need for the early purchase of long-lead time items or by items that the client may wish to purchase that are outside of the main contract (such as furniture or equipment).

[edit] Contractor cash flow

Contractors have to have money coming in to pay suppliers and subcontractors and for the day-to-day running of the business. For example, Carillion's cash flow was very low, leading to their liquidation in January 2018.

At the start of any contract, a payment scheme or table is drawn up and agreed with the client or their quantity surveyor, e.g.:

[Brook, M., 2016. Estimating and Tendering for Construction Work. 5th Edition. ed. Taylor & Francis.]

[edit] Supply chain cash flow

Cash flow is also an issue for the construction supply chain, and is a common reason for contractors and sub-contractors becoming insolvent. This can be catastrophic for a project in terms of time and money. It is in the client's interest therefore to ensure that the supply chain is paid promptly.

The government suggest that, 'Historically, it is has not been unusual for lower tier supply chain members to have to wait for up to 100 days to receive payment, which damages their cash flow and can harm their business.' (Ref. Cabinet Office, Project Bank Accounts – Briefing document.)

A number of measures can be adopted to improve payment and so cash flow in the supply chain, including:

• Fair payment practices.
• Construction supply chain payment charter.
• Project bank accounts.

In addition, there are a number of remedies for late payment.

[edit] Related articles on Designing Buildings Wiki

• Accruals.
• Balance sheet.
• Budget.
• Building society.
• Business administration.
• Cash flow forecast.
• Cash flow statement.
• Commodity.
• Construction supply chain payment charter.
• Credit crunch.
• Demand chain.
• Discounting.
• Discount rate.
• Discounted cash flow.
• Earned value.
• Fair payment practices.
• Financial hedging.
• Financial year.
• Microeconomics.
• Net Present Value.
• Payment schedule.
• Profit.
• Project bank accounts.
• Prompt payment.
• Quote.
• Relevant cost.
• Remedies for late payment.
• Retention.
• Solvency.
• Time value of money.
• The Late Payment of Commercial Debts Regulations 2013.
• Turnover.
• Whole life costs.
• Working capital.

Comments

Cash flow is the movement of income into and expenditure out of a business over time. If there is more money going out than in, this is negative cash flow.

Possible cash flow problems may be:

• Fee agreements that are tied to work stages rather than monthly invoicing so there is not a regular income attached to the project
• The firm may not be charging for variations to the brief or scope of works
• The firm may be holding too much ‘work in progress’ stock that has yet to be invoiced for
• The clients might be slow-paying or disputing invoices to delay payment
• The firm may have expanded too quickly, hiring more staff and renting larger offices, without the means to support them

To minimise the risks of future cash flow problems, the firm could establish a financial system that includes:

• A long term-plan (3 to 5 years) that establishes the direction, ambitions and targets for the practice, including a budget of income and expenditure
• Monthly forecasting and monitoring to allow preparation for shortfalls or increases in cash.
• Monthly management account that shows how the practice actually performed against the annual budget and previous month’s forecast for income, cost and profit.
• Cash collection report monthly setting out details of each invoice rendered and when it is/was due for payment – senior staff to agree a level of debtor days before more severe action should be taken
• Weekly monitoring or timesheets against projects so that performance can be monitored in both cost and time terms
• Daily monitoring and records for fee invoices paid, suppliers’ invoices settled, fee invoices raised, invoices received from suppliers and petty cash utilised
• Other reports – annual audited accounts, VAT returns and bank reports.