Everyone knows the importance of having a plan for a project. Without a plan, everything is left to happen willy-nilly, and chaos reigns. Contractors understand the need for building plans, but not many start their projects with a financial plan. In the 2020 Construction Payment Report, only 59% of contractors said they set a budget or timeline in advance of every project. This means that more than 40% of contractors surveyed haven’t planned out how the work will proceed or how to pay for it. Project delays and payment disputes are an inevitable result. Here’s why setting a construction budget and schedule matters, and how they prevent payment problems before they start.
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Why a financial schedule matters in construction
Scheduling your payments along with your work is important. You need to know how much you can bill, and when – so you can pay your bills. GCs and owners may request that you invoice before the end of the month so they can get their draws in to the owner and the bank.
You will need to estimate how far along you will be, in both labor and materials, up to two weeks before the end of the month. Without an accurate picture of what your costs will be, you won’t have a way to predict the income you’ll need to cover them.
Delays happen when the prime contractor hasn’t properly scheduled the work or when the scope of work changes. These delays can have a direct effect on your bottom line. If your work is pushed out a month due to unforeseen conditions, and you can’t bill for a specific project, your cash flow could take a substantial hit.
Planning your expected income for all your projects will allow you to quickly see where you can bill more during the delay. Delays in payment are all-too-frequent in construction, and planning your income can help smooth the transition here as well.
Because of the constant threat of payment delays, protecting your payments will be critical in order to properly plan your income.
Construction budgets keep your cash flow on track
A project budget helps you track the financial progress of a project or phase. By looking at the percentage of costs that have come in, you can gauge the amount of the project that is complete. This helps you know if your costs are where they should be.
If 50% of the budgeted costs are in, but you’re only 25% complete, then there is a problem somewhere. Job costing can help construction businesses identify issues and solve them before they become bigger problems.
Related: Download free construction budget templates for use on almost any project.
Many contractors bill their customers based on the percentage of the job that is complete (known as percentage of completion) based on the costs that have come in. This requires that you know how much income you need to cover your expenses up to that point in the job. Paying these costs is also dependent on the timing of payments, so your billings need to be turned in on-time and current.
When you bid a project, you include a certain amount of profit. You can’t know how much you are truly making unless you know how much the project was supposed to cost, and are quickly able to compare that to the actual cost. Comparing your budget to your actual expenses for the project will let you know how close you are to your anticipated profit.
There are steps you can take even during bidding to protect your payments, to make sure your cash flow stays on schedule.
Identify cost overruns
Using a budget, you can discover cost overruns before it’s too late to recover them. If your costs have reached 50% of your budget, but you are only 25% complete, you can begin to investigate to find out where the problem is.
There may be unrecognized change orders, damaged materials, or installation problems that need to be addressed. Without a budget to compare to, you don’t have a measuring tape to verify where you should be when a job is in progress.
After a project is complete, you can look at your original budget, compare it to the actual costs for the job, and learn what to charge for future projects of similar scope and size. By comparing budget costs to actual costs, you can learn where your assumptions in bidding a project may be out of line or where a change needs to be implemented on the next one.
Without a project budget, you won’t know the value of your current work (work in progress or WIP) and upcoming work. If you recognize your income by percentage of completion, a cost budget is necessary for comparing project progress and knowing if you are underbilled or overbilled.
Sticking to a construction budget requires payment protection
By setting up a cost and income budget and an income schedule you will know how much income and costs you will have coming in each month. With this information, you can project costs and income weeks or months in advance. You can then plan for shortages, instead of just reacting when you can’t pay your bills. This keeps your company moving forward and will save you additional costs such as late fees, finance charges, and interest.
But a budget is only as good as your ability to get paid for your work. Maybe you’ve tried working from a budget in the past, but failed when the property owner on one project delayed payments, and that affected cash flow on all of your projects. Many contractors and suppliers accept late or partial payments as the status quo, without realizing the role they play in speeding up their own payments.
The #1 way to predict and plan regular payments is by protecting them with mechanics lien rights (or bond claim rights if you’re on a public project). Using tools such as preliminary notices, lien waivers, notice of intent to lien, and mechanics liens will help speed up payment on all your projects and help you be seen on the job. By planning ahead, you will know when it might be time to look at other avenues to speed up payments, such as payment incentives, invoice factoring, or offering other payment method options, such as credit cards.
Budgets prevent payment problems before they start
If your company isn’t using budgets and schedules to predict your costs and income, you run the risk of flying blind into every project. You hope that payments will arrive in time to cover costs, and you’re always guessing how much to bill each month. By spending a little time planning your projects, you can see ahead. It’s such a great feeling when you know that everything that comes in will be paid in a timely manner and you won’t suffer additional costs for late payments.