We talked to a group of contractors and asked them to share their challenges with us. This is what we learned.
Owners of construction companies face a variety of challenges from hiring reliable and skilled workers to finding balance between managing the field and the office. But, one of their largest challenges is cash flow and having access to construction financing that can help them take on new projects to grow their businesses.
Why do construction companies need financing?
In the construction industry, it’s common for receivables (payment due for work completed) to be delayed anywhere from 60 to 90 days. However, to start a new project, our panel shared that they often need workers and supplies – both requiring upfront cash. They need funds to pay those expenses now, because they are likely not receiving payment for completed work until much later.
A lack of skilled workers has also impacted the construction industry. An owner needs cash to attract the best, most skilled labor, or they need cash to properly train new employees.
In construction, it isn’t a lack of demand that keeps owners from taking on new projects. What often keeps them from securing new contracts is having the working capital to get a project off the ground. Some contractors pass on new work because they simply cannot afford it.
We asked our panel for insight into how they manage cash flow and how they use construction business financing to keep their businesses moving forward.
Managing cash flow
When it comes to managing cash flow, one of the first things our panel of contractors mentioned was the need to be prepared. And not just prepared, but one step ahead of cash flow issues. If cash flow dips below a certain level due to circumstances out of a business owner’s control, a plan for supplementing cash during that lull is critical.
Some contractors on our panel, have cashed in their invoices early, in exchange for an early pay incentive. They receive payment faster in exchange for discounting their services. If that isn’t an option, there are several other tactics for getting cash (see the next section: How does a contractor get cash?).
Another way construction businesses can prepare for low cash levels is to start establishing business banking history and business credit as soon as possible. Making regular deposits into a business checking account, paying business and personal credit cards and other bills on time, and maintaining good relationships with vendors and suppliers, contribute to building business credit history.
Even if you’re a small outfit that operates primarily in cash, start building your business credit infrastructure early on. Then, if you find yourself in a situation where you need to secure additional working capital, you will have that foundation in place. Otherwise, you won’t be prepared when you need business financing.
How do contractors get cash?
In an ideal world, a contractor builds up enough cash so that they don’t need to turn to other resources. But the realities of business, especially in construction, often make carrying the amount of cash needed to start a new project very difficult.
The construction business owners we spoke with shared some ways in which they’ve gotten funds and the pros and cons of each:
Whether business or personal, credit cards are easy to acquire even when you don’t have a proven track record. They are often used when a business is just starting out. But as the contractors on our panel pointed out, they rarely have high enough limits to be a tool for significant growth and are better suited for day-to-day use than for taking on new projects.
And as our panel noted, even with a low introductory rate, unless a credit card is paid off quickly, the cost of capital can exceed what a contractor originally intended.
Business Line of Credit
A contractor might also look to a business line of credit through their bank for construction business financing. A credit line can be initially difficult to set up, requiring significant documentation and extensive paperwork. But once up and running, a line of credit offers renewable access to cash. An advantage is you only pay interest on the money borrowed.
To secure a business line of credit, a contractor needs to have a reasonably good credit score, but the requirements aren’t as high as for some other loan types. Typically, a line of credit doesn’t require collateral.
The challenge for construction companies is that banks often see a lot of risk in construction in the wake of the 2008 financial crisis. Here’s how bank lending in the construction industry continues to be impacted.
The many application requirements and slow response times make term loans issued by banks (a term loan typically has a payback period of one to twenty-five years and a fixed interest rate) the least favorite choice for the contractors on our panel.
As our panel pointed out, even when they’ve taken the time to gather the required documents and wait for an answer, banks often say no. This can be disheartening, and our panel pointed out that it’s often not worth the time invested in applying.
It’s important to note that often, a good credit score and collateral are also required for a term loan. Some lenders won’t require collateral but put a “blanket lien” on your business instead.
The contractors on our panel shared that short-term financing offered the benefits of having an easy application process, a quick turnaround, and a condensed payback time which met their construction business financing needs.
Typically, short-term financing companies review recent revenue and cash flow and require less documentation than a bank where a contractor might hold a business checking account.
One reason this type of financing works well for construction businesses as well as so many other businesses is its short-term nature. It gives contractors bridge-the-gap working capital in amounts that they can pay back quickly once they are paid for outstanding projects.
Finding the best partner
Because of the nature of the construction business, it is very difficult, if not impossible to grow a business without accessing outside funds of some sort. As one contractor shared with us, “There are going to be gaps, and credit is your secret business partner.”
When it comes to getting the best deal on construction business financing, our panel shared that price was one of the many things that they’re looking for when shopping for working capital – but it wasn’t always the most important.
Building a relationship with a working capital provider so that they get to know you and become a partner in your business, was top priority for more than one panel participant.
How can construction financing help contractors grow?
While using credit is something people might be taught to avoid, construction businesses are using it to take on new projects while cash flow is low.
The contractors on our panel learned, often through trial and error, how to use business credit for successful growth. They also agreed that whatever business credit you access, it’s a good business decision to repay as soon as possible.
Securing working capital and managing cash flow are top concerns for the contractors that shared their experiences with us. But as one pointed out, “Cash can help you solve your problems, but you still need to have a plan.”
There’s more to building a successful construction business than access to capital, but having access to construction business financing can help companies take on more business, hire more employees, offer more benefits and training, and meet demand for their services.
Our mission at Swift Capital is to unleash the potential of every small business by providing them with fair and convenient access to working capital. We harness data and technology alongside personalized human expertise to see the true potential in every business. Did you like this post? Tell us what you’d like to see on our blog. Email us at [email protected]