Jacob Austin 00:00:00 Hi all, it's Jacob Austin here from QS.Zone. And welcome to episode 114 of the Subcontractors Blueprint, the show where subcontractors will learn how to improve cashflow, ensure profitability and grow their business. Today, we're covering a topic that I've seen posted about frequently on LinkedIn and inspired by that, and as it's an important topic, I wanted to bring you a detailed episode to help you protect your business. And that topic, of course, is cash flow. So I've been out and carried out some fresh research into cash flow and coupled that with real world knowledge of cash flow forecasting to give you some actionable steps that you can take to protect your business. And I'll be sharing all of that with you over the course of today's episode. So as we know, cash flow is of a vital importance and it's the lifeblood of any subcontracting business, whether you're in the electrical, plumbing, carpentry or groundworks trades and of course, any other, unlike main contractors who are perceived to have deeper pockets but make it their mission always to be in a cash positive territory for subcontractors, you often get paid in arrears and sometimes up to 90 days after completing work.
Jacob Austin 00:01:33 That means that a single late payment or an unexpected spike in your costs can quickly put your finances into a crunch. In some instances, it can be entire months after you've finished a job before you actually get the cash for it. And in that time, you've got to cover overheads, pay your workers, cover all your materials, and continue to run a successful business and bid on new jobs. So there's a lot going on. So we'll be exploring today. Methods to forecast your cash flow and build a robust business. Determine what makes an adequate cash reserve. Stress test your finances and devise contingency plans for one payment are late. Cash flow forecasting is your early warning system for your financial health. It means projecting when cash will come into your business and of course, go out of your business so you're not caught off guard by shortfalls. For subcontractors who endure unpredictable payment cycles, forecasting is essential for survival. By anticipating gaps, you can take action in advance, for example, arranging short term financing or delaying a non-critical purchase rather than doing it when funds are low and you're in panic stations.
Jacob Austin 00:02:51 So let's start with the thing that makes it all possible, which is creating a cash flow forecast. Now I'm going to talk about the principles of how you do it, so that you can understand the logic and complete your own forecast. I'm not going to go into the nuts and bolts of which formula to use and where to get your specific data from, because all businesses are different. But the first principle for cash flow is you've got to start with accurate data. As the saying goes, garbage in, garbage out. And the last thing you want to do is run your business on the basis of garbage. So we need your accurate cost data, the latest information from your accounting system, and whatever project management tools you might use that you use to generate billing. You're also going to need your estimating data for current projects, the ones that are going to be on site for the duration of the forecast. We're going to use that information to plan your spend, but also to plan your income. And that's where we're going next.
Jacob Austin 00:03:52 We're going to list out your expected cash inflows and outflows. So starting with payments you expect to receive from either main contractors or clients for completed work progress payments milestones, and make sure that those figures are adjusted for any retention deductions that are going to be held. And of course, forecast when those retentions are going to be due. Then we need to look at your expected outflows. So we're talking your payroll materials equipment rental payments to your subcontractors. Any other overhead costs you've got. And of course things like taxes and national insurance contributions that might forge you in particular periods of the year. And as you're collating these, you need to make sure that you're considering the date that that's going to be paid, whether it's cash in or cash out. And then we're going to create a simple timeline. And you can do that really simply using an Excel spreadsheet. It doesn't have to be anything complex. Many experts are recommending a rolling 13 week or quarterly forecast that's updated weekly. It helps to see beyond that, but the 13 week view is likely the most certain part of it, and the bit that you've got the most influence over, and the idea is to spread those incomes and outgoings across that 13 week period with another line showing your net cash position.
Jacob Austin 00:05:13 So feeding in at the start, you're obviously going to have however much cash you've got in the bank. Then you're adding together to that the effects of the income and taking away the outgoings. So when I do this, I prefer to do it on a weekly basis. I start with my beginning cash balance. I'm carrying out that sum of inflows and outflows to see the projected ending balance, and it tells you whether you've got a cash surplus or a cash deficit at each point. Now, once you've got this, this is going to be your baseline. And now what it's interesting and helpful to do is to stress test that baseline you've already got a picture over 13 weeks and potentially beyond over where the highs and low points are in your cash flow. But construction is a volatile industry. I've seen firsthand how minor things on a building site can create big, big cash flow holes in your forecast. And for me, at the time, the cash flow that I was forecasting was giving an indicator as to how the business was going to draw down its profit.
Jacob Austin 00:06:13 And when my project wasn't meeting its cash flow targets. The business I was working for was unable to draw down the profit that it was promising, leaving a hole in the numbers. And whilst that's important, it's not as important as whether your business can sustain itself. And for that reason, stress testing your cash flow is important and we do that by a couple of methods. Firstly, you can take a more conservative view over what you're going to get paid, knowing that main contractors might disagree with your progress made. They might kick back a couple of variations that you've asked for. Taking a conservative view of what they might kick out, or just netting down your income by an approximate percentage until you've got a payment set. It's a good way to replicate the kind of squeeze that you might find yourself under. The next tactic we can use is adjusting your payments backwards to show cash being received later. Because, of course, contractors in the construction industry are known for paying late, depending exactly on which contractor you're working for.
Jacob Austin 00:07:14 Their payment record is going to fluctuate, and if you're working for contractors that habitually pay late, then you need to be aware of that and you need to impact your cash in to try and replicate that. Your cash inwards needs to be when you're going to receive the payment, not when you've earned it. So in practice, that means if one of your contractors pays in 45 days against net 30 day terms, then you either assume 45 or 48 days in your cash flow model. And it's better to on the side of caution for the purpose of this activity. The other thing you can look at would be the effects of inflation, of planned price increases. And just for interest, you might factor in what might happen if you were to lose an early payment discount to one of your supply chain members. So if you've agreed a, say, 2.5% discount for payment within 30 days, and instead you paid it in 35 days and therefore didn't qualify for that discount, what is the impact going to be to your cash flow figures? These kind of little tests are the things that you want to do to replicate reality in your cash flow, because otherwise it's just a theoretical activity that could potentially show everything as fine and dandy, and the reality might be different to that.
Jacob Austin 00:08:30 And that's just not the point of the exercise. The point is to get a realistic picture of where your accounts are going to be, and to factor in some unknowns to help you plan for the future and put contingencies in place. Moving on from there. The next thing to do is to update it frequently. As I said before, many experts are recommending a weekly update to your cash flow. Maintaining that 13 week period. So set aside some time to update your projections with actual figures, new information, including what you're hearing from the project manager and clients that you're working for. Regular updates help improve accuracy and keep you alert to how new developments are going to impact your cash flow. So, for example, if a project's program is slipping or your client is hinting at a delay, then you can immediately reflect that in your cash flow plan. The benefits of diligent cash flow forecasting are huge. It enhances your decision making. If you can see that you've got a big cash surplus coming and it's maintainable, then this is the time that you can look at confidently investing in new tools, new plant, or improvements to the way that you're working.
Jacob Austin 00:09:41 Conversely, if you can see a cash crunch looming, you know that's the time to postpone big expenses or even line up extra financing. Forecasting is also going to reduce your reliance on emergency loans or stock gaps, and it keeps your team aligned. Everyone from estimators to project managers can operate with the same financial picture in mind and the same priorities. Most importantly, it gives you peace of mind and control in an industry that's known for its volatility. As one construction finance expert put it. Regular forecasting helps surface red flags early. It helps you maintain a healthy buffer so that your business can weather the effects of seasonal dips and surprises. Forecasting is one piece of the puzzle. Building a robust subcontracting business means setting up your operations so that you can try and absorb shocks and bounce back from setbacks. Resilience in your cash flow comes from good habits and safeguards that you put in place before trouble strikes. So next I'm going to talk about some strategies to make your business more robust about cash flow problems. The first one is probably the most obvious, which is to maintain discipline in your billing and collections.
Jacob Austin 00:10:56 It sounds obvious, but it's actually quite a common mistake to have disorganized invoicing, and two laid back an approach to following up on payments. Due invoices need to be sent promptly and accurately. As soon as your contract says you're able to invoice, then you get an invoice in. A lot of contractors have a policy that if you miss the valuation date, your valuation falls back to the next period. So submitting late can quickly cause a big hole in your cash flow. Next, you need a strict process for tracking receivables and chasing late payments. Even reliable clients sometimes need reminders, and there's no harm at all in asking whether your payment is teed up for its due date. Next. That your client and your contracts. Not all jobs are going to be worth the risk. Working for clients with shaky finances and poor reputations for payment are going to jeopardize your cash flow. I mentioned in last week's episode some ways that you can find out how regularly your clients pay. If you're working for big main contractors, they're available on the Gov.uk portal.
Jacob Austin 00:12:01 Doing your homework on how frequently contractors pay on time or pay late helps you to decide whether at first you want to work for them at all. And secondly, if you do, how to forecast your income to take into account their potential payment delays. You also want to consider running credit checks on new clients and ensure that contracts have clear payment terms and even penalties for late pay. When it comes to payments, what you ideally want to see is small, frequent payments, rather than big milestones that are less easy to plan and to manage. This reduces the impact if one payment is delayed because you've collected cash all along the way. When it comes to clients, it's better to have fewer reliable clients than many who pay late or potentially don't pay at all. And this is a balancing act, because you also don't want to let any single client dominate your income either. You want to diversify your client base so that no single customer dictates your entire cash position. That might also mean diversifying the market that you're working in.
Jacob Austin 00:13:04 If you're working for purely house building contractors, they're known for building a lot when the market is booming and for slowing down to an almost stop when they're struggling to sell. This kind of volatility, this kind of volatility is almost impossible to plan around. So you ideally want a position where you're not reliant on 1 or 2 clients, that you're experiencing the same problems. You want a situation where one contractor might slow down, but you've got other work to keep you going. Ring. Next is a point more on long term strategy. You want to control your growth and your overheads so that you're living within your means. Robust businesses spend less money than they're bringing in. It's a mistake and a big one to overextend yourself by growing too fast, or by taking on projects that are beyond your capacity. So being strategic about your growth is how you're going to grow sustainably. You scale up when you've got steady cash flows and steady reserves, and think as you grow the size of the project that you're working on, the reserves need to grow with that to handle the higher fluctuations and the higher expenses.
Jacob Austin 00:14:12 Similarly, overhead costs need to be as lean as possible. Fancy offices and top of the line trucks might be nice, but can you afford them during a slow month? And this is where you need to separate the nice to haves from the need to haves in your budget. Purchases need to be informed by if you're going to use them long term. If you're going to earn money from them more than once and pay for them, how quickly are you going to pay for them? How much are they going to cost you to maintain, and how much are you going to lose by their depreciation? The vital question before you purchase anything is do I really need it? Or is it only a one off need that I need for a particular project and then God knows when are you going to use it again? Is it better to use short term rentals, or can you see a way to buying something that you need now, making the use of it for the project that you're on and selling it again to recoup that loss, buying things for the sake of it, or because it looks good on social media and not the way to run a successful long term business.
Jacob Austin 00:15:14 Robust businesses prioritize their cash flow over vanity and over the appearance and needs over desires. Next, you need to think about the seasonality of your business, and this is where it makes sense to do annual cash flow forecasting rather than the 13 week or quarterly cash flow. Because many trades have busy seasons and slow seasons, particularly those that work outside or need natural daylight to complete their work, even those that don't. Can also be affected in some way by seasonality because of where you fit into the build program, and slower progress on external work impacting when you can start or the volume that you can start of internal work. This is where you can learn from historically, looking back at previous years of cash flow. You can start to pick out annual trends and seasonal patterns. If you can see that every year. February is a particularly slow month because the short days or the cold temperature, then you might want to delay certain purchases or find a way to line up other work to keep money flowing in. If you can see that during summer seasons, you're completing more turnover, but your turnover drops during winter.
Jacob Austin 00:16:29 Then you might want to think about how you structure the work that you carry out. And certainly you want to plan for the cash outgoings in winter so that you're creating reserves in the summer to fund your way through the dry spells. That might mean something like you're looking at your regular payments, your overheads, payments, your staff costs that aren't linked to any job, and you're setting aside part of any surplus that you're generating in the summer and keeping it as a pot to fund your overheads throughout the winter. Simply, what we're talking about is anticipating the dry spells and having a plan and funds in place to cover them. Next, you want to embed awareness of cash flow in your team. So for people like foremen and project managers, make sure they understand how their actions are going to impact your cash flow. For instance, delays in submitting change orders or day worksheets that delay billing delay cash coming in associated with those items. So train your team to prioritize anything that affects getting paid. That might also mean focusing on work that's able to be finished before a billing cutoff point.
Jacob Austin 00:17:38 Obtaining prompt client sign off for items that you've completed, and of course, sticking to your billing schedules. A culture of cash awareness makes your whole operation more resilient. Now let's talk about reserves. General guidelines from financial experts recommend keeping at least 3 to 6 months worth of operating expenses in reserve as a baseline. That means if your monthly outgoings are, say, Ā£100,000 a month, then you'd want between 300 and 600,000 saved in a relatively liquid form. That cushion is there to cover unexpected shortfalls, for example, a major client paying you late. But construction and trades can be more volatile than any other business because of seasonality effects and the prevalence of late payments in construction related businesses. So, in fact, one construction accounting firm noted that every construction owner should ideally maintain somewhere between 9 and 12 months of operating costs to confidently be able to handle big shocks to their cash flow like a big project being canceled, major equipment failures or economic downturns that might seem like a bit of a lofty goal. And of course, not every subcontractor will achieve that immediately.
Jacob Austin 00:18:55 But it underscores one important point. More buffer gives you more resilience. To do that, you might be stashing a regular percentage of each project's profit into a reserve account and steadily build a cushion over time. Similarly, if you have an unusually profitable project or a boom summer, resist the urge to immediately plow that extra profit into expansion or into new toys. If you haven't got a sizable Reserve. Consider as well putting your reserve funds into an account that's going to earn you additional interest and grow that reserve. Holding reserves is the most effective form of contingency plan, but on top of that, you need to have some other contingencies because despite your best efforts, some payments are always going to be late. So you need backup liquidity. This might look like an informal line of business credit an overdraft to stay solvent during revenue gaps, invoice factoring or discounting. This is where a financial partner will advance you most of an invoice value immediately, and then they collect the value from the client. This way you get, say, 85 to 95% of an invoice now, and you get the rest minus a fee when the client eventually pays up, and also longer payment terms to your supply chain.
Jacob Austin 00:20:13 Sometimes your material suppliers will be able to extend your credit terms to give you an extra 30 days or so to pay. Based on your history with them and based on your credit score. Now, all of these things are best thought about in advance, and setting up when you don't need to rely on them. Everybody knows when you've got millions sat in a bank account. Banks are more likely to be able to offer you forms of credit, but when you've got two pennies in there that you're rubbing together, they're not interested. And that's why it's important to plan these contingencies, recognize when you might need them, and get them in place before you have to rely on them. Of course, if you've maintained enough buffer or reserve, then the contingency plans may never be necessary, but it's far better to have them and not need them than to not have them when you ultimately need to rely on them. And final thought for today is if you're regularly and really struggling for cash flow under a particular contract, then remember the contract that's in place.
Jacob Austin 00:21:13 We're working in the construction industry. That means that we're backed by the Construction Act, That Construction Act gives you the legal entitlement to suspend works if you're not being paid. All you need to do to trigger that is to write a letter to your contractor and set out the reason. Whilst you might be hesitant to sell relationships by welding that as a stick. Knowing your rights and having that in your back pocket is a further part of your contingency plan. And in my experience, because no quantity surveyor working for a main contractor wants to be the reason why a job is delayed, simply sending that notice is enough to get the money flowing. So remember that in case you need to rely on it. And there we go. In under 25 minutes, we've highlighted the importance of cash flow forecasting. The simple way that you can do that for your business, and some simple contingencies that you can put in place to protect yourself. But in a nutshell, cash flow for subcontractors is all about being prepared and being proactive.
Jacob Austin 00:22:17 As we've said many times today, the construction industry is volatile, but managing your cash flow to gain foresight into how you need to react is how you create a stable operation that can handle that industry volatility. Thanks for tuning in today. My mission with the podcast is to help the million SME contractors working out there in our industry. If you've taken some value away from today's episode, I'd love it if you'd share the show and pass that value on to somebody else who'd benefit from hearing it. And of course, subscribe yourself if you haven't already. If you want to learn more, you can also find us at www.QS.Zone for more information, we're also on all your favourite socials at @QS.Zone. And again, thanks all! I've been Jacob Austin and you've been awesome!
