Contractors’ Guide to Managing Cash Flow in 2022

As the construction industry enters the final quarter of another turbulent year, contractors are faced with planning for another year that promises its fair share of uncertainties and challenges. Ongoing COVID-19 expenses, ultra-competitive bidding fields, a massive infrastructure bill held up in Congress, anticipated individual and business tax increases, continued labor shortages, as well as job and supply chain delays will all impact contractors and their cash flow potential well into 2022.

As many contractors who received Paycheck Protection Program (PPP) loans are still working through their backlogs, they may only begin to feel the full impact on their cash flow next year, making this year-end a critical time to employ every tool available to plan, manage and maximize cash flow.

Budgeting & Cash Flow Management

Always a best practice in the cash-focused construction industry, budgeting and cash flow management are more critical than ever in uncertain times. These financial tools help contractors identify when there will be shortages and surpluses of cash, so they can plan adequate cash flow to carry operations at all times.

A contractor’s operating budget should cover the next 18 to 24 months and be paired with a fluid, cash flow model that projects 6 to12 months of cash flow and is continually monitored throughout the year. When periods of cash constraint are identified, the contractor can take the necessary steps to identify other sources of cash or expense reduction. Times of surplus can be an opportunity to explore upgrades in technology, safety or other priority areas.

Project-centric cash flow management is also recommended to help contractors understand the cash cycle of each project. For this tool to be successful, the contractor must determine a project timeframe that predicts when various aspects of a project will be performed, when payment for these activities will be disbursed, and how billing terms for the owner will provide actual cash flow. The goal of this strategy is to accelerate cash receipts and achieve positive cash flow from each contract.

Various factors affect cash flow and should be evaluated as part of an effective plan. These include timely billing and collection procedures, disbursement procedures and project scheduling. The plan should take into account the inevitability of change orders and consider how disputes can be identified early, submitted and resolved quickly.

Common Pitfalls that Impact Cash Flow

Even with budgeting and cash flow management in place, there are common mistakes that can derail a contractors’ cash flow plans, especially in a year as unpredictable as 2022 is likely to be.

Taking the wrong jobs

In the wake of COVID-19 losses and the scarcity and delay of new work, contractors are faced with an ultra-competitive bidding field that makes it tempting to underbid on jobs or bid on work outside of the company’s strengths. Neither strategy will yield much, if any, profit, and both come with an excessive amount of risk. Instead, contractors should stick to their strengths and re-evaluate their pre-qualification processes to ensure every bid is customized and highlights all relevant expertise, past performance, safety record, technology investment, compliance with contracts, and other qualifications that put the company’s best foot forward.

Missing out on tax savings

Another common mistake is overlooking available tax savings, which can be a big boost to cash flow. This can be anything from choosing the wrong accounting method for a contract to not claiming applicable tax credits and deductions.

PPP loans were widely publicized, but there were valuable tax savings opportunities in COVID-19 relief legislation that might have been overlooked. Most notably, potential tax benefits include the federally backed Employee Retention Credits (ERC) available for businesses showing declines in quarterly revenues in both 2021 and 2020 versus 2019. Meeting decline thresholds in revenues makes certain quarterly compensation paid to retained employees eligible for tax credits of up to $5,000 per employee in 2020 and $7,000 per employee for each quarter in 2021.

At this time of year, it’s important to look at any fixed assets you plan to purchase next year and determine if it makes more economic sense to purchase them this year to maximize the bonus depreciation or Section 179 deduction.

Some of the more commonly overlooked tax credits in the construction industry include the fuel credit (for fuel purchased for eligible off-highway purposes), the research and development (R&D) tax credit (for creating or improving a process or product), and the energy-efficient commercial building deduction (for the installation of energy-efficient HVAC, building envelope and lighting assets eligible under Section 179D).

Neglecting technology

Contractors are known for lagging in the adoption of digital advances, due in part to underestimating the impact on the company’s bottom line. Outdated software, manual processes and even underutilization of programs already implemented can cost a company significant time and resources. Contractors that are looking to improve cash flow will want to consider the upgrades, automation and digital tools that will reduce human error and redundancies, improve efficiencies and increase competitiveness.

Putting off succession planning

Finally, a pitfall that many contractors fall into is not having a succession plan in place. While it may not seem like a priority on a day-to-day basis, preparing for what will happen to the company when the owner exits is critical to its long-term financial well-being – and to current cash flow if the exit happens prematurely or unexpectedly. Succession planning, which includes identifying a successor and defining the roles of future leaders, is also an effective way to retain key employees and keep them invested in the future of the business.

Let the Planning Begin

When done correctly, budgeting and cash flow management can lead to faster collection, slower disbursement, decreased borrowing and investment of excess cash.

The operational planning to achieve these goals for 2022 should have started already, but cash flow management is a way of life for successful construction companies all year-round. Remember too that your plan must be communicated often, updated as needed and empowered with buy-in from management and employees alike.

William P. Hughes William P. Hughes, CPA, is a Partner at Grassi’s New Jersey office and brings over 30 years of accounting experience to the firm. William provides his clients with expertise in accounting and tax services, business and management consulting services, and individual tax planning services. William also has experience assisting clients with financial reporting, preparing financial statements, auditing, reviews and compilations. William works with clients... Read full bio

Categories: Advisory