It’s a difficult topic to address, but firms often fail. At one moment, a company can be exhibiting tremendous success, and the next, it is closing its doors. There are many reasons why companies fail, but they almost always end with the ultimate reason for failure to meet obligations due to a lack of working capital.
Construction firms often face even more challenges than many other types of businesses. Their markets can change rapidly, growth can be too costly, or a primary customer might cease to pay their bills. Here are some of the biggest causes of construction firm failure.
The Market Changes
Everyone remembers the Great Recession as an extreme example, but market changes can also happen within individual markets. An area that is running hot can cool if prices become too unreasonable. Customer needs might be another reason a market changes. A place might become undesirable, or living and working habits can shift, as we saw during the pandemic. While we can’t see the future, we can observe and forecast trends. Proper planning and budgeting can make all the difference. Having a plan for downsizing and cash reserves in the bank are essential, even in the good times.
The most valuable tool any boss has is knowing when they are inadequate in one area and working with others to fill those gaps. An owner might be fantastic at contracting and motivating their people but very poor at financial planning or locating and understanding critical data. Many owners will go with how they feel about their business while a different reality transpires in their job costing or period over period financial statements.
Often the worst of these situations comes from feeling great about tremendous sales growth but not knowing there is the money to support it. Many contractors might feel they are becoming wealthy while not realizing everything they are making is going back into the company to fund growth, and it’s still not enough. They might be celebrating their demise.
Neglecting Expenses When Times are Good
When things are good, and money is being made, it’s easy to neglect expenses that can be further cut. If things are so good, everything must be in line with where it should be, right? It’s more likely that costs go up in the good times than the bad times when everything is subject to inspection to ensure your survival. If you start cutting costs when things get bad, it’s too late. Start now.
Lack of Operating Capital
When there is money in the bank, it’s easy to spend it. A new truck always sounds great. If things go sideways on a large job, those reserves can be crucial to draw on to meet payroll or consumables costs. Make sure capital reserves are held and growing.
Not Borrowing Enough
Yes, you heard that right. It doesn’t mean using borrowed money but having it available to draw on when needed. Banks won’t give you a line of credit when times are bad, so when times are good, make sure your financial statements are complete, and your credit score is sound, then secure a healthy line of credit.
Not Collecting Enough Financial Data Right Now
Job costing is essential in good and bad times, and having that ongoing benchmark can alert you to problems yet to come. Later on, it is also a measurement tool if times are looking a little slim, and it needs to be an ongoing discipline. As a bonus, great financial data always helps elevate the value of the business for borrowing purposes or should you decide to sell.
Lack of Business Diversity
Depending on a few large customers or just a few services might be a business killer if customer needs change or a large customer fails. Other companies may look successful and be big customers, but as we have learned, looks and reality are two very different things. If a large customer goes bankrupt, their lenders are probably in the first position to collect what remains of the company, and your contracting company gets nothing. Having many mid-size customers is far safer than a few very large ones.
Have Experts On Hand
As the previous points have shown, an expert partner is a must, especially when managing your finances. In both good times and bad, you need to know what is happening in your business, where budgets can be managed, what operating capital can be saved, and your options for borrowing.
A fractional CFO like Daaxit that specializes in working with contractors knows the proper benchmarks for the industry and how to successfully plan for future events that can have an adverse impact. Not only will profits increase in good times, but the business is prepared for the inevitable time that things go sideways. A finance specialist ensures you make money now and are around for the long term.