Every business has a revenue cycle, and constant cash needs. But unlike my favorite restaurant that gets paid immediately after serving my usual order, spicy tortellini, your construction company might not get paid for 30, 60, or even 90 days after service is complete and the job is done. Supply costs, labor costs, mobilization costs—there are many issues specific to construction that all add up to a unique cash flow process. Understanding how to improve your cash flow, and how it differs from your profit, is crucial to managing your company and avoiding the problems that come with poor cash flow.

A contractor might reason, “If a job is profitable, isn’t that all that matters? Why be concerned about my cash flow cycle?” Because a failure to actively manage your cash flow will seriously negatively impact your growth potential. Consider the findings of the Levelset “2022 Construction Cash Flow & Payment Report”:

• While nearly two-thirds of businesses report profit margins greater than 10%, less than one-tenth of companies report being always paid on time for completed work.
• Companies most commonly offer payment terms of 30 days or less, but less than 40% of construction businesses report getting paid within 30 days on average.
• Explanations for slow payment vary, with half of subcontractors blaming the general contractor while 40% of general contractors blame the project owner’s financing.

Industry news source Construction Dive details the following most common cash flow issues:

• Cash is tied up in projects, used to pay for job-related bills and expenses.
• Customers are slow to pay invoices.
• The contractor submitted invoices that don’t cover the scope of the work.
• The contractor performed/paid for changes that have not yet been approved by the client; therefore, they remain unbilled.
• There are missed deadlines or other billing missteps due to a new client’s unfamiliar billing practices.
• There is an unexpected increase in operating liabilities like payroll taxes, union dues, insurance fees or other financial obligation.

While contractors tend to focus on the production side of their business, there are other considerations key to your financial success. Regardless of the size of your business, when cash flow isn’t prioritized, your business is vulnerable to unnecessary risks. Poor cash flow leaves you exposed to missing deadlines; vendors might not want to work with you due to payment issues; liens could be filed; and ultimately, your reputation is on the line. You can avoid such exposure by mastering your cash flow. Follow these tips to eliminate the struggle to move money around to meet your cash flow needs:

Be Active in the Process

You have more control over your cash flow than you might think; it’s a matter of knowing your numbers. Open conversations with your suppliers and vendors can go a long way to managing and accessing your money. Review your billing process as regularly as your work completion process. Identify areas where there are breakdowns and work to improve them.

Additionally, consider steps like converting to digital invoicing and payment solutions. By taking advantage of technology, you can streamline the entire process and get paid faster. When cash flow is more timely, you can spend more time on growth and leads, less covering bills and payments.

Train Your Team

Training is critical. Spending company resources to properly prepare your team to handle issues is a sure way to improve your operations. Every contractor does some training with their employees, focusing many times on performance and safety, but, are you training those on your team that help you control your company’s cash flow process?

It is critical that project managers and office staff understand your billing process. Training helps them understand their role in the process and the changes they can implement to help make your company more profitable. Do your project managers understand how the timing of cash receipts can reduce your interest expense? Does everyone understand that vendor discounts can provide for substantial savings for a contractor with strong cash flow? Too often, construction team members do not fully grasp all they can do to help make their company more profitable by improving cash flow.

Monitor Your Past-Due Accounts

While some shy away from pursuing late payments, it is simply good business to request payments you are owed. There is a distinct difference between being straightforward and being aggressive. Do you have a team member who is in charge of paying attention to your collections? Do you know how many days it typically takes your business to get paid? Sending friendly reminders to your clients who aren’t paying on time is an important part of a good business plan.

You might also consider being more flexible in how you accept payments. The more convenient payment options are for clients, the faster they can pay. If nothing seems to be working, sending a preliminary notice can sometimes be equally as effective as a mechanic’s lien at getting the property owner or contractor to make a payment.

Focus on Communication

Let me guess: You have communication issues between the field and the office. That is the case with every contractor we talk with. But a consistent, focused effort can improve communications in a reasonably short time period. These issues often come down to understanding the challenges that each side is facing and being empathetic about the causes of the problem, even inadvertent ones. Once your entire team is working together toward the goal of improving cash flow, everyone on the team will see where they can contribute to improvements.

Change Your Change Order Process

Easier said than done? Most contractors use change orders throughout their projects, which are, almost always, not finalized until the last parts of the job. Change orders are “interest free loans” to the project owners. A typical scenario involves a contractor performing these “extras” throughout the job, then waiting until the end to invoice them. Invoicing is followed by 30 to 60 days of negotiation over the amount of the invoice. Once the amount is agreed to, the contract owner takes another 60 days to pay the invoice. The result: a huge strain on the contractor’s cash flow.

The best contractors have a proven system in place to accelerate the cash flow cycle related to their invoices, including billing for the extras as they are completed, or even ordered. If you find yourself collecting change orders well after the job has wrapped up, you need to improve your process to improve your cash flow cycle and avoid being the one financing the work.

Get Creative With Your Bid Line Items and Terms

The most successful contractors know the “art of the bid.” On bids with multiple line items, consider increasing the value on items that will be performed early in the contract. Items like mobilization, when it is not limited, are where savvy bidders will increase their values to accelerate their cash flow early in the contract cycle. Focusing significant portions of your bid on line items that are likely to be paid first can make a dramatic difference in your cash flow. This strategy allows the contractor to use the owner’s money to help finance the job.

Some contractors feel like their hands are tied with contracts, but you need to question unfavorable contract terms and stay transparent about your business needs. This is all about protecting your business. Don’t leave anything unaddressed that you’re not comfortable with. If your clients don’t have to pay you until they “get around to it,” you’re creating a perfect opportunity for extensive delays or even missed payments.

The contract should specify the scope of the work, payment schedule, and legal repercussions of late payments. Remember that your lien rights are designed to protect you. For more than two centuries, the mechanic’s lien has been empowering materials suppliers, contractors, subcontractors, and other construction stakeholders with the most effective weapon they can wield against delinquent or non-paying clients. You want to get liens filed on anything that’s unpaid or late, but a more proactive move is to issue notices that ensure your lien rights are protected at all times as you get more work.

When you walk onto a construction site, there is an entire community of stakeholders on the job. You are under enough pressure without cash flow issues. Being more assertive in your cash flow approach can help save critical dollars on interest, grant you more purchasing power with suppliers and allow you to be available to take advantage of growth opportunities when they arise. No matter how talented you are, or how dedicated to your craft, if you haven’t dedicated the time to improve your cash flow, you’re not setting yourself up for success.

We hope these tips will help you on your journey toward growing your business soundly, profitably, and predictably. HBK Construction Soluitons is here to help. You can reach us at 330-758-8613, or contact me by email at mkapics@hbkcpa.com.

Top off your cash flow statement and you might be amazed at the benefits that pour out into your business.

What is a cash flow statement?

Your cash flow statement tells readers of your financial statements how you accumulated and spent cash during the year. The cash flow statement is broken into three parts: operating activities, investing activities, and financing activities.

• Investing activities: money spent or earned on improving your brewery. Includes buying brewery equipment, such as tanks, a canning line, and filters, which are shown on your balance sheet and depreciated over time on the income statement. Investing activities also include cash you received if you sold equipment.
• Financing activities: money received or paid back related to ownership (equity) transactions or debt. Includes money received through a loan from a bank or investors. Paying down those debts would be recorded here as well. If you invested money in the brewery, your contribution—or distribution if you pulled out money not considered salary—also would show up here.
• Operating activities: the heart of your brewery. Includes all your normal day-to-day operations, as well as non-cash items included in net income, like depreciation and gains or losses on the book value of disposed equipment. Cash received from sales to distributors or in your bar, inventory purchases, kegs or cases sold to customers but not yet paid for, increases in credit card debt or accounts payable—all impact your operations and will indicate increases or decreases in cash during the year.

Why is your cash flow statement important?

The investing and financing activities on your cash flow statement show the peripheral transactions that occurred during the year and the cash impact of those activities. On the other hand, the operating section of your cash flow statement will give you a good idea of how your business performed during the year. Were your cash flows supported by operations (positive impact), or used to support operations (decreases in cash) causing you to use financing or investing activities to maintain cash flow? Your answer will help you determine if you’ll be able to generate sufficient cash to continue to maintain operations. It can also help you decide if your operations alone can provide the money to expand or whether you’ll need to explore other avenues.

A purchase of hops, which is inventory, can be turned into sales, or cash, much quicker than a purchase of a fixed asset, such as a new canning line. But you could use your cash flow statement to explain how investing in a canning line supported current and near-future operations.

Your cash flow statement will paint a picture of your business performance. Did you spend the year investing and upgrading your brewing process? If so, your cash flow statement will reveal the expense, but you could point out that the new equipment resulted in an increase in operating activities, which allowed you to buy more materials, produce more barrels, and ultimately increase your revenues.

Using your cash flow statement is an easy first step toward modeling cash flow forecasting. With historical data from your cash flow statement, your brewery can now budget and allocate resources to determine when to make certain purchases, or know when and if you can sustain difficult financial periods like those that have accompanied the COVID-19 pandemic.

How can you apply your understanding of your cash flow statement?

• To budget and project future cash flows: Whether it’s identifying the need for more staff or making a new equipment purchase, you can determine if you have or will have the available cash.
• To better understand other areas of your balance sheet: Are increases in your inventory appropriate? Is your accounts receivable current? Are you paying your accounts payable in a timely manner? These are areas to focus on to help improve your cash flow.
• To bridge the gaps between your balance sheet and income statement: Looking at net income is useful, but does it help you determine whether adding a new employee or managed service is something you can afford? Does your income statement indicate you have the cash from operations to pay for more employees or add new services? The cash flow statement helps you answer these questions and make those decisions.

As someone I know often says: “People don’t know what they don’t know.” If you don’t know how much cash your operations are bringing in versus your investing and financing activities, you will have a harder time forecasting and making sound financial decisions. Feel free to reach out to me at 724-934-5300, or by email at tgagen@hbkcpa.com to discuss your cash flow over a couple of pints. Cheers!

The Research & Development (R&D) tax credit is a federal tax credit available to businesses of all sizes that conduct Research & Development activities domestically in the United States. The definition of R&D is broad and applies to nearly every industry, not just your typical science labs. The R&D tax credit was first introduced in 1981 as a way of rewarding businesses that were investing in American innovation to boost the economy. When first introduced it was only intended to be a two-year credit, but due to its success, it has been extended every year since. Over the years there have been many changes to the R&D Credit, but most notably in 2015 as part of the PATH Act, it was overhauled and established as a permanently available tax credit. This has allowed more businesses to fully utilize the credit without fear that it will be unavailable in the future.

What Activities Qualify for the R&D Tax Credit?

The Internal Revenue Code (IRC) Section 41 and the related regulations help define what types of activities qualify for the R&D tax credit. Next, we are going to break it into two sections, what activities qualify as R&D and what expenses of the R&D activity qualify for the R&D tax credit.

To qualify as R&D according to IRC section 41, the taxpayer must show that the activities:

• Are intended to discover information to remove technological uncertainty that exists at the outset of the project or initiative related to the capability or methodology for developing or improving the business component or the appropriate design of the business component.
• Rely on hard science, such as physical science, biological science, computer science, or engineering.
• Relate to the development of a new or improved business component, defined as new or improved products, processes, internal-use computer software, techniques, formulas, or inventions to be sold or used in the taxpayer’s trade or business.
• Substantially all R&D activities must contain elements of a process of experimentation.

Once we determine what activities qualify for R&D, next we need to determine what expenses are considered Qualified Research Expenses (QRE). As a reminder, only expenses incurred domestically in the U.S are eligible QREs.

• Wages paid to employees for qualified services.
• Supplies used and consumed in the R&D process.
• Contract research expenses paid to a third party for performing Qualified Research Activities on behalf of the taxpayer, regardless of the success of the research, allowed at 65% of the actual cost incurred.
• Basic research payments made to qualified educational institutions and various scientific research organizations, allowed at 75% of the actual cost incurred.

How is the R&D Tax Credit Calculated?

There are two distinct ways to calculate the R&D tax credit. The first of which is the Regular Method and the second is the Alternative Simplified Method. Both methods are similar in that the credit is determined by comparing your current year QREs to the base amount. The difference in the methods come into the details of how the base amount is determined and the percentage of the credit. When using the Regular Credit, the base amount is determined by calculating the QREs as compared to gross receipts from 1984 to 1988 (the original years the credit was available) or by applying the start-up company rules that create a formula based on the years that R&D activities began with a limit based on 50% of the current year QREs. The Alternative Simplified Credit takes an average of the past three years and is adjusted each year. The Regular Credit yields a credit of 20% whereas the Alternative Simplified Credit yields a 14% credit.

In determining which method is the most beneficial there are several factors to consider as this decision is permanent. Some of these factors include the amount of R&D activity that will be completed in the initial years compared to the lifetime of the company, the availability of historic information needed to determine the base periods under the Regular Method, when the business or owners be able to utilize the credits, and the cost of having a formal study completed.

With both methods, there is also another election to consider, which is commonly referred to as the 280C Election. This election is required and permanently based on the first filing containing the R&D tax credit. Without this election, the business must remove the gross amount of the credit from their deductions when determining taxable income. With the 280C election, the credit is further reduced by the tax impact of the credit to simplify the reporting requirements.

As an added incentive for start-up companies to take advantage of the credit, the IRS has granted the ability to use the credit to offset payroll taxes. The credit is still nonrefundable in the event it exceeds payroll tax liability, but any excess can be carried forward. To qualify as a start-up, the company must be within the first five years of operations, have current year gross receipts of less than $5 million, and not be included in a controlled group that does not meet either of the first two requirements.

Summary

The R&D tax credit is a vital tool in generating cash flow while investing in a growing business that is overlooked by many businesses. The R&D credit often yields a cash return on investment of approximately 5-7% of the QREs. In addition to a federal tax credit, many states offer a modified version of the credit that can be easily calculated alongside the federal calculation.

If you have any questions or would like to discuss further, please contact your HBK Advisor.