Many construction companies struggle to complete projects, meet financial obligations, and sustain operations due to cash flow restraints. Unfortunately, these failures often result in permanent shutdowns. Startling data from the U.S. Bureau of Labor Statistics reveals that only 35.9% of the 43,277 construction businesses that began since March 2011 remained in operation by March 2022. As the age of the business increases, the survival rates decline further. The four major contributing factors behind this high failure rate are discussed below. Taking steps now to mitigate these pitfalls can keep construction contractors on a strong footing.
One of the primary reasons construction companies fail is inadequate cash reserves. While performance and job availability are important factors, contractors often go out of business due to overextended finances. This can occur when contractors undertake too many projects, have cash tied up in multiple projects, struggle to collect receivables in a timely manner, underbill clients, expand their business too rapidly, or venture outside their area of expertise.
Each of these paths ultimately leads to dwindling cash reserves, resulting in a lack of capital to meet project demands. To address this, implementing a cash flow management system is crucial. This system involves organizing, planning, and controlling the collection, investment, and disbursement of cash. Key objectives include increasing the speed of collections, slowing cash disbursements, investing excess cash, and decreasing borrowing needs. Components of a cash flow management system include billing procedures, collection procedures, disbursement procedures, job scheduling, addressing change orders, and tracking cash flow on a project-by-project basis.
Operational failures often result from inadequate business planning and the lack of proper implementation of policies and procedures. There are many reasons construction contractors may find themselves in this position, from inexperience to immersion in the day-to-day work versus a strategic overview, to simply being overwhelmed. Operational issues and potential failure can manifest as various internal symptoms such as leadership issues, inadequate project management, poor project performance, communication gaps between the office and field, and regulatory compliance challenges.
Implementation and regular assessments of procedures are essential to ensure there is effective alignment with project guidelines. A system to effectively manage change orders is crucial to manage work scope, help avoid increased costs, project delays, and reduced billings.
No Succession Plan
While proper succession planning is vital to the long-term success of a business, it is frequently not an urgent or immediately demanding subject. Successful businesses take early action to address the challenge of continuing a business after an owner’s retirement or other exit. Starting succession planning early involves researching the right plan for the business and developing a procedure for choosing the right successor. The plan should cover aspects such as selecting the right successor (family member, outside member, or employee stock purchase plan), milestone dates, evolving roles of the owner and successor, knowledge and relationship transfer, and effective communication of the plan to stakeholders.
With increasing digitalization in the construction industry and the adoption of remote work during the pandemic, cybersecurity risks have grown significantly. Construction companies have become attractive targets for cybercriminals due to the industry’s slow adoption of technology and information security protocols. One of the industry’s unique risks is that multiple job sites can serve as potential access points for cybercriminals. High personnel turnover makes it easier for impersonation and unauthorized data access. Contractors can mitigate cybersecurity risks by fostering an attitude of skepticism, reviewing IT protocols and security parameters, understanding the risks and legal implications of breaches, developing an incident response policy, and considering cyber insurance policies.
The construction industry’s high rate of failure can be attributed to factors such as overextension, operational failures, lack of succession planning, and cybersecurity risks. Construction businesses can significantly improve their chances of long-term success by implementing robust cash flow management systems, ensuring effective business planning and implementation of policies and procedures, creating early succession plans, and prioritizing cybersecurity measures. It is crucial for contractors to recognize these common pitfalls and take proactive steps to avoid them, ultimately securing a brighter future for their companies.