Aging accounts receivable can hurt any construction business's
financial performance. And as you've probably experienced, it's a common issue.
Payments are often delayed by last-minute change orders, hefty retainage,
project disputes and slow approvals. Here are six ways to better manage this
critical area of your business.
1. Consider more frequent credit checks
When assessing a project owner's ability to pay, your level of
due diligence should match the level of risk. Commercial contractors often
review credit reports, financial statements, banking relationships and trade
references before agreeing to payment terms. Meanwhile, residential contractors
may rely more heavily on deposits, progress payments, financing approvals or
other indicators of financial stability.
Even if credit checks aren't typical for your business, consider
doing one for larger jobs or owners requesting extended payment terms. Look
closely at payment history, debt levels, cash flow and, when feasible,
references from lenders or other contractors.
Under some circumstances, it's also wise to reassess credit risk
periodically. For example, before starting a new project for an owner you've
worked with before, determine whether their financial situation has changed.
You may want to do this during long-term jobs as well.
2. Be ultra-clear about payment terms
Naturally, each contract should include payment amounts and due
dates. But try to add language stipulating consequences for overdue balances.
Examples include late fees or finance charges if permitted by law and the
contract, and the possibility of outstanding debts being turned over to a
collection agency. Also, take the necessary steps to preserve your lien rights
promptly. (State requirements vary.)
In addition, consider attaching an addendum to the contract that
clearly outlines all payment terms and methods. You might email it to project
owners, too, to help ensure they always have it on hand.
Offering different payment methods may further boost your
chances of getting paid on time. Common examples include credit cards, ACH
payments and digital payments via widely used apps. Some construction
businesses have invested in online payment portals. If you go this route, be
sure to provide the link early and often.
3. Regularly refresh your invoice design
When's the last time you reviewed and updated the design of your
invoices? Many contractors underestimate the importance of aesthetically
pleasing, easily understood invoices. Critical elements include:
- A simple but
detailed explanation of charges,
- Easy-to-find
due dates,
- Comprehensive
payment method options, and
- The correct
web address of your payment portal (if you have one).
You might also want to include early payment incentives on your
invoice, such as a 1% to 3% discount or a reduced price for other services.
Doing so can instill the kind of loyalty that leads to repeat business or
positive word-of-mouth.
4. Closely monitor payment patterns
Tracking trends can tip you off that you need to modify your
accounts receivable practices. Monitor metrics such as days in accounts
receivable (days sales outstanding) and the average time between invoicing and
receipt of payment. If the results exceed your standard payment terms, you may
need to be more proactive with collections.
Keep an eye on the payment histories of project owners you work
with often. For those you identify as slow payers, consider changing their
terms (for example, requiring a bigger deposit on the next job) or ramping up
your collection efforts (for instance, sending earlier reminders or reaching
out to someone directly).
5. Formalize your collection policy
Many contractors take an ad hoc or case-by-case approach to late
payments. But this can inadvertently send a message to both project owners and
your employees that accounts receivable, as a business function, isn't a high
priority.
Ideally, your construction business should have a written policy
for enforcing payment terms and initiating collection efforts when necessary.
It should be supported by a multistep, escalating process for communicating
with owners.
For example, you might begin with a friendly reminder shortly
before payment is due, followed by a written notice immediately after the due
date passes. From there, your process should follow additional steps, such as:
- Having an
accounting or administrative staff member call to confirm the invoice was
received and ask when payment can be expected,
- Asking the
project manager or an executive who knows the owner to follow up directly,
and
- Sending a
formal past-due notice that cites the payment terms and warns of next
steps.
For significantly overdue balances, your policy should specify
when to pause additional work, if allowed under the contract; assess late fees
as permitted; pursue lien rights where applicable; or refer the matter to legal
counsel or a collection agency.
6. Ask for help
In accounting terms, accounts receivable are considered an
asset. But they don't do your construction business much good until you convert
them into cash. Our firm can help you evaluate your current practices, identify
opportunities to strengthen your collection policy and processes, and leverage
your financial data to improve cash flow management.
