The success of the construction industry, like any other sector, hinges on the presence of a well-defined product or service, a skilled and motivated workforce, and a robust customer base. Nevertheless, achieving success in the construction field proves to be notably more challenging compared to many other industries. According to data from the Census Bureau, construction businesses have experienced a failure rate nearly 1.5 times higher than companies in other sectors over the past decade. Research suggests that the inherent risk in construction businesses stems from factors such as escalating project costs, increasing expenses for materials and labor, labor-related challenges, heightened competition, and diminishing profit margins. Bureau of Labor Statistics data reveals that out of 69,296 private construction firms starting operations in 2001, only 56% were still operational three years later, with a mere 17.2% surviving 20 years. This alarming failure rate of approximately 82.8% underscores the need for a closer examination of the factors contributing to the demise of construction companies. Among the myriad reasons behind construction business failures, a predominant one is the lack of effective financial management. Recent studies emphasize that successful construction companies heavily invest in recognizing the significance of financial health, taking proactive measures to ensure stability. In this article, we delve into the realm of construction financial management (CFM) and its pivotal role in securing the long-term financial health and sustainability of construction firms.

What is CFM?

Construction financial management involves the strategic allocation and accounting of financial resources, encompassing cash usage and the management of assets like machinery and equipment. Every decision made in the construction business, from major bidding choices to project financing options, significantly influences not only the specific construction project but also the overall financial standing of the company. Effective construction financial management ensures realistic project budgets, adherence to those budgets, and overall financial stability, contributing to the success of the company.

What Makes CFM Unique?

Distinguishing construction financial management from its counterparts in other industries, it becomes apparent that the dynamic and complex nature of the construction sector requires modifications to conventional financial management concepts. This distinction is evident when comparing the financial management of a construction company to that of a process-oriented industry, such as product manufacturing.

1. Project-Oriented Work Unlike the manufacturing industry, which is process-oriented, construction companies operate in a project-oriented fashion. Each construction project requires accurate cost tracking for various components, making financial management crucial to avoid underestimating costs.
2. Decentralized Work Construction companies work in decentralized locations, with equipment and employees moving between projects. This necessitates precise tracking of costs, location, and managing each crew and piece of equipment as a profit center.
3. Extended Payment Terms Construction projects involve long-term contracts with progress payments, withholding retention funds. This irregular billing cycle creates unique cash flow challenges, requiring adjustments to financial procedures.
4. Substantial Use of Subcontractors Unlike many other industries, construction companies heavily rely on subcontractors, impacting financial dynamics. Financial managers must modify standard principles to suit the industry’s characteristics.

Strategies Better Financial Strength

To strengthen financial management in construction companies, understanding these four key concepts are critical:

1. Train the Operations Team in Financial Basics Educating all team members on the basics of finance, like revenue, fixed costs, variable costs, and profit helps ensure everyone understands the company’s financial dynamics, fostering informed decision-making.
2. Track the Metrics that Matter Establish key performance indicators (KPIs) and metrics for data-driven decision-making. Empowering leaders with real-time financial insights allows them to be proactive rather than reactive.
3. Don’t Just Work Hard, Work Efficiently Utilize the technology tools that are now so readily available, such as cost tracking software for accurate estimates, cloud-based project management, and process automation apps to enhance productivity.
4. Risk Management Mitigate risks through subcontractor risk management, effective contract management, pre-start due diligence, and establishing backup options for financing, bonding, and insurance.

PRESAGE can help you improve your financial management

We have served organizations in construction and construction-related industries since our inception. Whether you’re a general contractor or specialize in a subcontracting industry such as plumbing or electrical, you can count on our expertise to help you maximize your financial and operational efficiency.