Maximising cash flow: Control change at the source

Cash flow is the lifeblood of any business.

That is true of any business in any industry but even more so in the construction industry, where margins are tight, unreasonable risk transfer is common, and the rate of financial failure is extraordinarily high compared to other industries.

In construction, it is generally the case that payment is made for work in progress. This is governed by the contract payment rules, and the contractor, and then its subcontractors, will try and manage this issue by agreeing to credit terms that are better than those it has agreed to with its client (e.g, we are paid in 30 days, so let’s pay the supply chain in 35 days).

This well-oiled cycle starts to break when you incur events that are outside your responsibility under the contract. You have a liability to pay someone for performing that task (staff, labour, supplier etc) but you will not recover that cost until, strictly speaking, you have satisfied the contract change provisions and you are paid through the contract payment provisions.

The more events you are cash flowing, the more this becomes a make-or-break issue for projects and businesses in the construction industry. In some cases, businesses could be funding events for 12-plus months to the tune of millions of pounds, and this places a consequential constraint on that business's ability to invest and/or reward its employees.

The worst part, though? Often businesses don’t even know they are funding these events until late in the project when cash receipts start to run dry and costs to complete amounts become tight, but there is a significant amount of work to be completed.

One solution, which we will explore in this article, is improving the way you control changes at source.

Spotting Changes Early

Your cost is not incurred when it hits the financial ledger. That cost occurred when something was added to the drawing that was not required by the contract, when someone agreed to do something in a meeting or when a problem was solved on site.

As a QS, you need to be aware of these changes. You need to be tuned into what is happening and why it is happening. Be curious, ask questions, and understand the root cause of the change. From there you can identify who is liable for the cost, estimate or approximate a likely cost, and ensure you pursue recovery of that cost from the responsible party.

It may be that you simply need to challenge the change, and, on review, it is decided that it isn’t necessary to perform the change. This is always encouraged because the most effective way of avoiding conflict is not to spend money in the first place!

It is a simple concept, but the earlier you capture change, challenge it, or act on it to recover your entitlements, the healthier your cash flow will be.

Little-and-Often vs. Big-Ticket Claims

What this concept results in is a little and often approach to resolving issues because you are approaching this with nitty-gritty and specific detail.

The alternative, which is common if you are not controlling change, is a £2m claim lumped on your client towards the end of a project, giving them no opportunity to manage their budget and destroying any trust there was between you.

That isn’t very good client care, and if you put yourself in a situation where that is done to you (remember the shocking car bill presented to you when you picked up your car?!) then it’s not unreasonable to expect that it will cause an emotional reaction.

Now think of the alternative. You are regularly communicating issues, demonstrating that you are trying to prevent the costs and giving your client an opportunity to prevent the cost; you are managing their expectations so that they can manage their budgets, and you are providing them with all the information they need to understand their liability and the likely cost.

Yes, it is going to cause some difficult conversations, but it is better to have those conversations little and often, find a resolution to the issue and move on. In my view, that is far better than having one big difficult conversation at the end when you lump in the £2m claim.

Building Robust Change Controls

When setting up your change controls, think about your typical risks under the contract and where those changes tend to occur. The most obvious are design and programme, so, as a QS, do you know and understand what is changing and why? Are you influencing those changes and the decisions? If not, you are likely heading for a problem.

The sensitivity of your controls will depend on whether you can define the things that need to be maintained in order to achieve the budget. This will often come from the underlying assumptions in the price, such as assumed specification, assumed quantities, assumed progress rates, or assumed team structure, etc.

You need to collect as much of this information as possible so that you can identify changes. If you assumed a certain specification but the developed design is showing something different, then challenge it.

Final reflections

Generating cash in the construction industry can be challenging, and keeping on top of risks to cash flow can be even more challenging. It takes hard work and perseverance because construction projects operate at a ferocious pace and dynamically develop.

There is no way around it, though, and the only way to tackle the issues is to face them head-on. You need to build systems that are sensitive to change, help identify issues and allow you to act so that the lag between cost incurred and recovery is as short as possible.

For me, I see this as a commercial machine, and I always enjoy the challenge of building the machine because it is always slightly different depending on the contract type, engineering solution, or even the project team.

In the next article, we’ll look at how to structure and value variations so that you maximise your chances of full recovery.

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