Economic uncertainty in construction threatens success for many firms, with rising inflation and interest rates sending costs soaring. Labour shortages and supply chain disruptions further compound the issues, but there are ways to adapt, explains Chris Bristow, business debt expert at Real Business Rescue
Staying agile in economic disarray increases efficiency and lowers costs. There are various practical steps construction businesses can take to streamline their operations and mitigate the effects of ongoing economic unpredictability.
Adopting technology, focusing on the businesses’ cash flow needs, and addressing credit management and control processes can offer the agility needed to operate in such a challenging economic environment.
Adopting technology
The adoption of technology by the construction industry was notable during the pandemic and helped businesses manage some of the challenges during that time. Technology can also help construction firms deal with the adverse effects of an unstable economy and is particularly useful in managing their complex supply chains.
Blockchain technology and the Internet of Things (IoT)
Blockchain technology provides a reliable view of the supply chain at any given time and offers transparency for all members. It encourages collaboration and trust and can help to ensure raw materials and supplies reach their intended destination with few disruptions.
Disruptions that do occur can be swiftly managed by using tracking devices that provide real-time warnings of problems such as shipping delays. The Internet of Things is a network of devices that offers agility to construction and other industries experiencing continual issues or could benefit from additional logistics support.
Automation software
Construction firms can also streamline their administration processes using automation software. Automatic reordering, finding the best shipping routes, and automatically processing invoices considerably reduce the time drain of manually carrying out these tasks.
Cloud software also enables remote working as information can be shared from any location, whilst a paperless business further reduces its carbon footprint.
Focusing on cash flows
The construction industry is known for its long payment terms, so it can be challenging to manage cash flows effectively. However, a strong cash position enables agility, so focusing on cash needs over the coming months is vital.
Cash flow forecasts
Any upcoming cash shortages can be identified by regularly forecasting cash flow. A negative cash situation places enormous pressure on any business and can quickly lead to insolvency if day-to-day liabilities cannot be met.
Cash flow forecasts are the starting point for controlling cash in the business, and regular budgeting can provide valuable insight into where cash is being spent. Businesses can then cut expenditures where possible and release more working capital to deal with the fluctuating raw materials and transportation costs.
Good credit management and credit control
Efficient payment collection methods lead to greater cash availability, which typically means chasing invoices as soon as they are overdue. Action can also be taken sooner than this, however.
Good credit management involves credit checking new customers and suppliers, but also existing ones. Companies can fail quickly, and those once reliable payers may not necessarily be in the same financial position a year or more later.
Offering discounts for fast payment whilst the company adapts to economic uncertainty in construction can also lead to better cash throughput and, crucially, their ability to make outgoing payments as required throughout the month.
Cutting costs
A cost-cutting exercise identifies where the business may be spending unnecessarily and involves price comparisons for day-to-day outgoings, such as gas and electricity, office supplies, and inventory costs.
Even if only a small reduction in each cost is achievable, the effect on business outgoings can be substantial and release the extra working capital needed to survive the economic uncertainty in construction.
Assessing contracts
A central issue for the construction industry is the rapidly increasing price of raw materials and other supplies, which can lead to significant losses over the course of a project if the risk is not mitigated.
Typically, the contractor bears all the risk of price escalation. Still, given the volatility of raw materials costs, reviewing the details of contracts and addressing the issue head-on is worthwhile.
Cost escalation clauses
Price escalation clauses can mitigate some or all of the price volatility risk and provide a more stable foundation for operating. A cost escalation clause is a mechanism that passes responsibility for certain additional costs to the client.
This type of clause can benefit both parties, however. For example, if prices fall, it is advantageous to the client. Still, cost escalation clauses can also result in lower tenders by contractors simply because they have cost certainty.
It encourages fair pricing and allows construction firms to operate without the threat of making a loss due to a situation that is out of their control. Soaring raw materials costs and shipment difficulties emerged during the pandemic and have been exacerbated by various factors, including the economic downturn and the ongoing conflict in Ukraine.
Negotiating a cost escalation clause
Not all risk has to be passed to the client, however – it may be shared between the parties. It is advisable to keep in regular contact with clients about current prices when cost escalation clauses are used and potentially to pre-agree their total liability should prices increase.
A price escalation clause may also include the client’s right to end the contract if costs exceed the stated amount or percentage. If presented to a client correctly, these clauses can encourage trust and transparency whilst protecting construction firms from significant loss.
Actively planning and factoring in constantly changing operating circumstances keeps businesses agile and ready to change course as necessary, whether on a particular project or about their overall business model.
Stress testing the business against various outcomes is also advisable to stay ahead of problems and identify any changes that may need to be made in worst-case scenarios. This enables agility but also encourages resilience in an ever-changing market.