How to Profit From Effective Cash Flow Management
By Steve Maltzman, SMA Consulting

Cash flow forecasting is one of the key components of a home builder’s financial success. If builders don’t properly manage their cash flow — if they constantly find themselves taking cash from their current job to cover the sins of a previous job — they will never have a positive bottom line.

To break out of this predicament, builders should absolutely make long-term and short-term cash flow planning an integral part of their budgeting process. They should also look at their cash sources and requirements on a monthly basis.

In addition, I also recommend that builders examine their weekly cash inflows and outflows when developing their cash flow planning, and that they incorporate a six- to eight-week rolling schedule.

To Begin, Accurately Detail Your Planned Monthly Expenses

Many builders can lose sight of the details needed for accurate cash flow forecasting when they sit down to develop their annual and monthly operating budgets because they simply identify their annual expenditures and then divide them by 12.

This method of forecast planning won’t provide a true picture of monthly operations.

A more accurate way to plan your monthly operations budget would be to try to identify the month or months you anticipate incurring specific expenses, for example, advertising.

You don’t spend the same amount on advertising each and every month of the year, so when planning for advertising, try to identify when you plan on running your ads and put those planned expenditures in the appropriate months’ projections. If you are planning to have a Yellow Pages ad, for instance, budget for the cost of the ad in the month that the actual expenditure is expected to be made.
 
Once you have identified your anticipated monthly operating expenses, you then need to adjust you total expenses for other cash flow items.

Deduct items such as depreciation, since this is a non-cash expense, and add such non-expense related cash items as note payments — the interest portion should be considered as an expense while the principal payments affect cash flow — cash payments of other liabilities, cash purchases for equipment and cash payments for federal and state income taxes.

After completing this process, you will have accurately identified the amount of cash you will need each month to operate your company.
 
Next, Examine Cash Flow From Your Jobs

The next step in developing your annual cash forecast is to look at the cash flow from your jobs. Depending upon the number of units you build, this budget can be prepared by unit or by subdivision.

You will need these four elements to accurately develop your job cash flow:

• Draw schedule — whether from your bank or from your customer
• Construction schedule
• Payment terms for your subcontractors and suppliers
• Job estimate

With all of these in hand, you should easily be able to predict cash inflows and outflows for your jobs.
 
Once you combine the cash flow calculations from your jobs with your cash outflows, you now will be able to identify the months in which you anticipate excess cash and cash shortfalls.

With this projection, you will be able to accurately make strategic decisions for the year, such as, whether you should develop a line of credit to smooth out your cash flow; whether you should start a spec home to provide cash flow from your construction loan; and whether you should renegotiate payment terms on a note coming due.
 
Regularly Update Your Monthly Cash Flow Projections

Just as you do with your other financial reports, your monthly cash flow projection should be reviewed and updated regularly.

In addition to your monthly forecast, if you have tight cash needs, you also should prepare a more detailed weekly cash flow projection that includes information on which subcontractors and suppliers are to be paid on a job-by-job basis, as well as your weekly cash inflows, including draws and collections of receivables.

Also, be sure to update this forecast each week. It will help you identify any weekly cash problems and give you the ammunition you need to discuss new payment plans with your vendors, if necessary.
 
Cash Management Tips

Developing a cash flow forecast will assist you in planning for your cash inflows and outflows. Following are some tips on managing your cash flow and how to profit from it:

• One of the advantages of the custom building business compared to spec building is that you can use the customer’s money to pay off your trades and suppliers rather than using internal funds or construction loans. You should try to always be ahead of the customer and maximize the use of your client’s funds by taking a deposit and front-loading your draw.
  
  
• If you are front loading your draws, it is imperative that you manage your books on a percentage-of-completion basis. This will enable you to understand and account for overbillings on your jobs. By using percentage-of-completion accounting, you will always know when you are ahead on a job.
  
  
• Try to set up benchmarks for payments that correlate to the start of a phase rather than its completion.
  
  
• Take advantage of vendor discounts. A 2% discount for paying in 10 days is comparable to saving as much as 72% during the year. Since the vendor would have to be paid in another 20 days anyway, where else could you be earning that great a return?
  
  
• Likewise, ask your subcontractors to take a discount if you pay them earlier than the scheduled payment date.
  
  
• Set up specific days for paying your bills (e.g. the 10th and 25th of the month) and keep “hand checks,” those checks issued outside your specific payment days, to a minimum. You may also want to consider mailing checks on a Thursday in order to take advantage of the “float” over the weekend.
  
  
• Set up a sweep account with your bank so that you can earn interest on your excess cash. With a sweep account, your bank will automatically move any amount in your checking account that is above the specified balance needed to avoid bank fees into an interest bearing account. Many banks also will allow you to sweep excess funds into a money market or higher interest bearing account, rather than a normal savings account.
  
  I also have found that, with many banks, a builder who has an average daily balance greater than $35,000 can earn interest income that is enough to offset any bank fees related to having a sweep account.
  
  
• Time your larger draws so that you can get money into the bank before the close of business on Friday to take advantage of earning interest over the weekend.
  
  
• Time your loan draws to only take them when you are ready to disburse the cash. If you are borrowing money to build a house, you can minimize your construction loan interest by taking down the funds only when you need them.
  
  
• Explore the possibility of obtaining a line of credit even though you may not need it at the moment. It is easier to establish a credit line when you really don’t need the funds. A credit line will also provide you with flexibility in taking advantage of discounts.
  
  
• When setting up credit lines or construction loans, don’t be afraid to ask for better rates. In most markets, if you have a good set of financial statements, points and rates are negotiable.

Over the years, I have seen more and more builders add worthwhile amounts of interest income, discounts earned and reduced interest expenses to their bottom line through proper cash flow forecasting and management.

Steve Maltzman is a CPA and president of SMA Consulting, with offices in Redlands, Calif. and Orlando. SMA Consulting provides financial and business management services for builders and remodelers. For more information, e-mail Maltzman in the Redlands office, call him at 909-335-9100 or visit the SMA Consulting Web site at www.smaconsulting.net.

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