410 companies within the construction sector became insolvent.
Infact, the construction industry ranked 2nd, contributing 16% of US business insolvencies.
Amidst overgrowing project backlogs, slow-paced collections, and retainage requirements, you constantly struggle to manage debts.
Along with poor financial management, another reason for this alarming trend is that you mostly purchase construction materials in bulk due to the constantly rising prices and financing additional onsite equipment to tackle mounting backlogs.
Construction accounting is unique due to cyclical cash flows, high capital, and unpredictable payment cycles. These factors contribute to growing liquidity challenges. For running successful business operations, you heavily depend on debt. Even in the face of increasing interest rates, you can’t avoid debt entirely as it’s a lifeblood for seizing business growth opportunities. That’s why effective debt management is significant for financial health and stability.
Beyond Bricks and Mortar: Effective Debt Management Strategies for Your Construction Company
Have you asked yourself – How am I going to use the debt? What is the cost of debt? Do I have enough revenue to pay off debt?
Being a contractor, you usually don’t think much about debt until tax season arrives, and you receive form 1099 C. You need to report every debt you owe, including canceled, forgiven, or discharged as additional taxable income.
And when you look at current debt, you may be surprised to see room for improvement in the rates of interest you are paying on your different notes, credit cards, and loans. However, inefficient debt management can exert undue pressure and have significant impact on daily operations.
“Debt doesn’t have to be a bottleneck, but the stepping stone for company’s growth and success.”
Here are various debt management strategies tailored to the construction industry, enabling you to effectively manage debt.
Swap Debt for Equity
This strategy is like a financial reset button where your business swap debt with a percentage of ownership. It works best when you are unable to repay your creditors.
But be prepared. Swapping debt for equity means a drastic restructuring in your business operations, and you may even need to surrender leadership if creditors gain more operational control.
The advantage? Well, this bold move paves the way for future growth since swapping frees up funds that you would utilize to repay debts. It unlocks financial opportunities which seemed to be out of reach.
Balance Fixed Rate and Floating Rate
Once you determine the extent of your long-term outstanding debt, it’s paramount to strike a balance between risk and opportunity cost.
Of course, fixed rate will be higher than the floating rate, the advantage lies in the certainty they offer. You will have clarity of cash requirement to cover the principal and interest payments on this debt.
A few things you must consider when striking a right balance between fixed and floating interest rate debt mix:
- Business Profile
- Capital Structure
- Credit Ratios and Covenant Restrictions
- Rates and Volatility
- Peer Comparison
This strategy safeguards you during rising and lowering interest rate scenarios.
Negotiate with Creditors
One in five construction companies is concerned about their ability to make full repayments.
It is not necessary that you always have a debt agreement with creditors. But having strong working relationships will increase your chances of debt agreement.
However, many creditors are open to the idea of reducing interest rates or renegotiating payment terms to help their customers stay on top of their debts. Such informal debt agreements enable you to freeze accrued debt interest, providing you some relief from the onslaught of creditors’ letters, emails, and calls. The negotiations highly depend on payment history and credit score. This strategy gives you a space to tackle debt efficiently, as you don’t have to make multiple payments. Just pay the one-time sum to the creditor.
Focus on Repaying High-Interest Debt First
High interest debt is like a dark cloud, siphoning off reserve funds of your company. So, it’s imperative to address it instantly.
Prioritize repayment of high interest debts to significantly reduce cost of interest and free up funds for new equipment or operational expenses. That’s not all. You can opt for refinancing and even extend the time for repaying loans or combine multiple loans.
Outsourced Accounting Expertise to Manage Debt
Being well-versed in the intricacies of construction and finance, outsourced accounting professionals keep your financials up to date, offering valuable insights. These experts understand the nuances of construction accounting, such as job costing, progress billing, and revenue recognition methods, mitigating the risk of expensive errors.
The certified professionals keep a record of all your debts in one place, a primary step to effective debt management, thereby aiding you in prioritizing payments. Also, they provide a regular monthly cash flow statement and actual vs budgeted expenses to prevent future debt accumulation and stay compliant with construction industry regulations.
Debt management is undoubtedly a unique challenge. However, these strategies will help to balance risk and opportunity costs, seize opportunities for favorable interest rates, and maximize reserves of your company.
By diversifying interest rate risk, repaying high-interest rate, negotiating with customers, and accessing outsourced accounting expertise, you can safeguard your company’s financial stability. Also, you can ensure room for growth and investment in substantial resources, paving the way for preserving cash flow, strong credit rating, and enhancing credibility in the marketplace. Are you ready to break free from the shackles of debt and build on a rock-solid foundation for your construction business growth?