October 6, 2024

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How Construction Companies Can Manage Their Liquidity Challenges

How Construction Companies Can Manage Their Liquidity Challenges

In today’s commercial environment, construction companies need to evaluate their current cash position and near-term cash needs much more regularly than before. So what are their options?

The volume of construction projects and future orders reduced greatly during COVID-19 lockdowns, despite many governments considering construction an essential service and allowing companies in the industry to continue operating.

As restrictions lift, construction companies must evaluate their previous operations. Many will consider all aspects, and some will begin to reinvent themselves. 

An important aspect of company management within the construction industry, particularly at the current time, is maintaining the right level of working capital, or access to funds to meet short-term obligations — especially when profit margins generally are very tight.

Liquidity — the ability to meet obligations as they arise — is generally prized as the greatest strength, with leverage and profitability close behind. Working capital — current assets less current liabilities — is a liquidity shown as a dollar figure, as opposed to a ratio. For this reason, bigger is usually better, but the quality of working capital counts too.

Why is liquidity a concern?

It is vital that contractors have sufficient short-term liquidity. Otherwise, their working capital can be stretched by delayed payments from owners, potentially creating a need to finance the delays with debt. This can result in costs that were not factored into the bid price.

Contractors must manage a number of risks that could impact their business’ liquidity, including:

  • Project delays.
  • Supply chain issues, including extending delays and billing.
  • Slow-paying clients.
  • Shrinking pipelines of work with lower revenue reducing future cash flows.

It is generally expected that projects will maintain a positive, or at the very least a neutral, cash position. The payment terms agreed with customers and subcontractors is a key tool used to manage this.

If there is a negative position, the project won’t be able to fund payments to subcontractors (independently). When a construction company is running multiple projects, there is a temptation to borrow liquidity from other projects, but this can be a sign of a company in distress, and possibly on the path to failure. 

While all contractors may be impacted by the COVID-19 pandemic, subcontractors are expected to feel the greatest pinch. Many are understandably considering ways to sustain their businesses.

“Sustain” operations through a crisis

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