A key aspect of managing a construction company operations and factor in many contractors’ success is the efficient assessment and management of working capital. This article will define working capital, explain why it matters for construction organizations, and provide tips on assessing and enhancing working capital within your organization.

The gap between your company’s current assets and current liabilities is known as working capital. It is a monetary indicator of a business’s capacity to make immediate payments (typically one year or less). You’ve probably thought about your working capital if you’ve ever worried about how you will pay your payments at the end of the month.

What is a working capital loan?

A business may face shortage of funds to meet its short term obligation due to several reasons such as overdue of bills receivable, unexpected surge or decline in demand due to externalities, etc.  A working capital loan is a lending product specifically designed to cater to businesses that require capital injection to operate efficiently, and to fulfill short term obligations to keep afloat in the business. 

Obligatory Documents to Avail Working Capital for Contractors

• KYC Documents : KYC means Know your customer. KYC documents are the basic documents that are required for availing any type of loan. KYC documents help the lender know and verify your basic details, it is a regulatory requirement to be KYC compliant.
• All principal accounts’ most recent six-month bank statements : Loans for construction business are capital heavy. Hence, the lenders would want to know the liquidity position and cashflow of the business to make a correct assessment of repayment ability. Hence, a 6 month bank statement is asked, as it helps verify the inward and outward transactions as well as average balances maintained in the account, and average number of days the balances are maintained.
• Brief description of the company’s history and promoters’ profiles : Company description and promoters’ profile help the bank know the business age, goodwill, and any negative or positive history which may have an impact on the application assessment.
• Financial projections for the current year and audited financial statements for the last three fiscal years : Financial statements over the last three years and financial projections are a great indicator of the company’s financial position. It gives a clear picture of the company’s operation viability and profitability along with an idea of the efficiency of the business.
• A recent stock statement with a study on aging : This is a brilliant indicator of the real inventory value. A company may have high inventory, however factors such as aging helps determine if the inventory turnover is good enough or not. A high aging inventory means possible product issues leading to high turnover days and dead stock.
• Work order information : Work order information indicates the current orders pending with the business, it indicates potential revenue waiting to be realized and can be really helpful for the lenders to assess finances and viability of the business. Another lending product known as loan against work order can be applied for in case of a good amount of work order.
• Any additional records that the lender may want : It is imperative to provide the lenders with whatever information they may require in the assessment process. Co-operation will help quicken the process.

Importance of Working Capital for Contractors

• Huge Project

Consider getting a sizable task that will pay you a 30% net margin after it’s finished. You should seize the opportunity since this is the sort of work that doesn’t come around very frequently.

Good news: Your bid was accepted! However, it will take you six months to finish the work and receive payment due to the project size.

This implies that you must float the cost of your labor, generally payable every one to two weeks, over the following six months while your team is working on this project. You also need to fund your general overhead costs for the six months, as well as the cost of the materials for the work.

Before receiving payment, you will need to make sure you have enough cash on hand to pay for all of these expenses. You will want additional funding if you don’t have any ongoing tasks during these six months; otherwise, you might not be able to accept the position.

This is where a higher working capital can be really useful. However, citing certain circumstances, having enough working capital readily available may not be possible. In such cases, a working capital loan for a construction project would help the entrepreneur navigate through the precarious situation with greater ease.

• Expanding Rapidly

Think about how you may benefit from being the first to enter a market niche with little competition. You want to take advantage of the excellent margins in this market

Your construction company will require more operating capital than usual to enter this new market. To complete the task, you must hire employees. Additionally, you must buy the tools, resources, and other things required to compete in this market. You won’t be able to make these investments or enter this new industry if you don’t have enough cash. Albeit the tools and resources can be bought on credit, however different tools will be bought under different loans, which is not ideal from the treasury point of view. It may be smarter to get a consolidated loan which will serve all the purposes that require capital injection for expansionary activities.

• Inadequate Return on Assets

When you have extra money that may be used for investments in the business or elsewhere, it’s crucial to evaluate your company’s working capital. When you have a significant portion of your assets invested in cash, inventories, accounts receivable, or other current assets, they can’t be used in areas where they can provide a higher return on investment.

Keeping a check on your working capital becomes crucial not just when levels are low but also when they can be excessively high. Specific corporate structures may be subject to an accumulated earnings tax for failing to distribute this extra revenue to their owners, in addition to generating a low return on existing assets. Accounts receivable frequently require the most excellent care.

Even when clearly outlined credit conditions are in place, specific clients might take advantage of a lenient payment policy due to a lack of attention over time. One of the simplest methods to increase working capital is to reduce accounts receivable by ensuring that customers pay on time.

It would be impossible to operate without any working capital if payments were made immediately and there was no danger to the business. The construction sector is hazardous and characterized by painfully sluggish payouts. To exist, contractors need to have a good quantity of working capital.

Finding out how rapidly your assets and liabilities turnover can help you figure out how much working capital your business requires, as well as if it has enough cash on hand to make up any deficit.

How to Raise Working Capital for Contractors

• Set Up a Credit Line

You may get cash when you need it with a line of credit without paying interest on any amounts that aren’t used. How a credit line works is that the lender keeps aside a credit amount proportional to the risks involved in lending you the money. Whenever there is a capital requirement, the borrower can simply take out the amount as per requirement, and repay in line with the repayment terms and conditions. The major benefit of a credit line is that the borrower doesn’t have to apply for loans on a repeated basis. They can keep on leveraging the existing credit line. This saves time and effort ,for all.

• Implement Progress Billing

You are only building up liabilities on the task up until the point at which you create an invoice or a payment application for a project. You have less working capital as a result. Using progress billing for all phases of your projects improves cash flow and working capital.

Progress billing not only helps with communicating the progress to the customers, but also keeps the cashflow steady. Absence of such billing system may result in bigger payment demand to the customers which may lead to longer time in bills realization. Smaller payments demanded in progress billing makes the payment easy for the customers and ensures quick bills realization and lower residual or default on payments.

• Finance The Purchase of Your Materials

On new construction projects, the startup and mobilization expenses can quickly deplete money. Contractors are capable of making upfront payments to suppliers because of materials finance.

Financing material purchases allows for flexible payback terms of up to 120 days, freeing up funds that may be utilized to settle other debts without adding to existing debt.

• Ask for an Upfront Payment

Receiving a deposit at the beginning of a project helps to supply the money required to pay employees, purchase supplies, and support other working capital requirements. It is best to begin investing money in a construction project as soon as possible.Financing the purchase of materials also helps with making efficient decisions, lack of capital may temporarily block the progress of the project, to ensure the continuity of the project which boosts goodwill and helps in realizing payments from the customers efficiently. Financing comes with its own set of advantages, which if leveraged well can help streamline the financials of the business.

This increases your asset balance and lowers the debt load that contractors frequently experience during the initial months of new work.

Initial funding will help in project launch and take-off as there are significant costs associated with getting necessary licenses, and permits, and starting the construction. The initial or seed funding is also essential due to the fact that the business may not see bigger revenue due to progress based payment plans and also it may take some time to sell more inventories.

Contractual Fees for Working Capital

Personalized Interest Rates	Starting from 1.25% per month
Period of Loan	up to 3 years
Processing Charges	2% to 5 %
Pre-closure Fees	Pre-closure charges are applicable as per the lender’s policy
Loan Amount	Rs. 50,000 to 2 Crore

Read More:

How to Calculate the Working Capital Requirement for Your Business

Working Capital Management – Small Business Owners

Types of Working Capital

Working Capital Loan EMI Calculator

Different Types of Working Capital Loans

How to Secure Collateral Free Working Capital Loan up to 1 Crore

Difference Between Working Capital Loan and Term Loan

Business Loan

Working Capital for Contractors
FAQs:

1. How Can A Short-Term Working Capital Advance Help A Construction Business?

Construction business is one of the most capital intensive businesses out there. In this sector there are many upfront costs that the business needs to bear before even launching the project. Since the constructor may not see revenue until a few days after the project launch, having enough capital is imperative for such businesses to keep afloat. A short-term working capital advance can greatly benefit a construction business by providing essential financial support. This contractor loan scheme enables contractors to access the necessary capital for their projects, covering costs like labor, materials, and equipment. By financing working capital for contractors, it ensures smooth operations wherever possible, allowing them to meet project deadlines and enhance their overall efficiency in the capital work contractor sector.

2. How does Working Capital Impact your Growing Construction Business?

Working capital is vital for a growing construction business. It enables contractors to cover day-to-day expenses, secure materials, and pay their workforce promptly. For contractors, work on contracts can be unpredictable, making working capital crucial. Utilizing financing options like contractor loan schemes can provide a lifeline, ensuring capital work contractors have the resources they need wherever possible, ultimately fostering business growth and stability. Working capital may also help construction projects that are progressing rapidly towards completion, however the payment from customers is yet to come in proportion to the progress. In such cases, a working capital loan may help the entrepreneur take the project across the finish line.

3. How is working capital determined for a construction company?

Current Assets – Current Liabilities equals working capital.

As the name suggests, both current assets and current liabilities should include only the short term assets and liabilities that are related to the project. An efficient use of working capital is instrumental to business success.

4. A healthy working capital ratio is what?

Most experts believe a working capital ratio of 1.5 to 2 is desirable. However, lower the working capital ratio, better is the cash position of the business. But the business should take into account the industry average and typical working capital ratio for comparable projects.

5. Is cash a part of working capital?

Yes, Taxes, salaries, accounts payable, and accrued interest are examples of current obligations. Everything that can be constituted in short term assets and liability is considered to be a part of the working capital.

6. What things may I take out of working capital?

Debt, deferred tax obligations, liabilities not included in the purchase, and liabilities that are the subject of a special indemnification are frequently removed from current liabilities when calculating net working capital. It is a crucial indicator of the liquidity of a corporation.

7. Does debt count as working capital?

Working capital is the sum of money needed to pay for all of a business’s short-term costs, such as inventory, short-term debt repayment, and ongoing costs, also known as operational costs.