Navigating the Reasons for Builder Bankruptcy: Expert Guidance

The construction industry is a vital and dynamic field that plays a critical role in shaping the built environment as we know and appreciate it today. From towering skyscrapers to cozy, contemporary homes, the construction industry is responsible for designing, building, and maintaining the infrastructure and buildings that support our daily lives. It’s an industry that requires a combination of creativity, technical expertise, and robust business acumen to navigate successfully. The industry offers almost endless opportunities for growth, innovation, and success, but it also comes with its fair share of challenges. 

Competition in the industry is fierce, especially between older generations of business and newer firms. Construction companies like yours need to constantly strive to stay ahead of the competition. But it’s not just the competition that builders have to worry about; market volatility, pandemics, changes to the economy, regulations, and technology can all disrupt your operations and supply chains, leading to financial difficulties later down the line. The question is, why are builders going bankrupt? And more importantly, how can you avoid making the same mistakes? Read on. 

Old vs New 

The competition in the construction industry is fierce, especially between older generations of business and newer firms. While newer companies often have a technological edge, older generations tend to have the experience, industry knowledge, and contacts needed to secure the meaty contracts. As a result, bankruptcy is a common reality for many builders and smaller construction firms. Smaller companies often have less capital and fewer resources to fall back on than their larger competitors, making them more susceptible to backlogged invoices and general financial struggles. It’s a steep, slippery slope that can lead to bankruptcy if not managed correctly. So, what can smaller builders do to ensure that their company doesn’t see the same fate as countless others before it? The answer lies in understanding the challenges and being proactive in finding solutions. 

• Diversify your portfolio by taking on a variety of projects, rather than relying too heavily on one or two. This can help minimise the impact of a single project on your overall business. 
• Include contingencies in your pricing for going over budget on projects. These contingencies should account for unexpected costs and delays, and help ensure that your projects stay on target. 
• Adopt effective time management and scheduling to keep your projects on track and avoid delays. 
• Carry out work for construction companies that are bigger than yours, you can leverage the success of your competitors and potentially minimise the risk of the primary contractor going bankrupt as these companies tend to have greater financial stability. 
• Put contingencies in place to access emergency cash through partner agreements, lenders and suppliers, so you’re prepared for any unexpected financial difficulties. 

Partner/supplier bankruptcies 

Your suppliers are the lifeblood of your business, providing you with the materials and equipment and sometimes labour you need to complete your projects to spec and on time. But when one of your suppliers goes bankrupt, it can have a devastating impact on your operations and potentially your finances. 

Imagine this scenario… 

You’ve just landed a huge contract and are preparing to start work on the project.  You’ve spoken to the client, met them, surveyed, quoted, ordered and paid  for all the materials you need from your suppliers, and everything is set to go. But then, out of the blue, one of your largest suppliers, a well established firm goes bankrupt. Suddenly, you’re left without the materials you need to complete the project and you don’t even know if you’ll be able to get the money paid for the materials back let alone if you’ll have the cashflow to repurchase the materials you just bought. What an absolute nightmare. You’re forced to scramble to find new suppliers at the last minute,  causing unanticipated delays, increasing costs and hurting your previously stellar reputation. This is a new client and they’re not happy. 

The project’s cancelled. If you’re unable to pay your own bills, it could lead to a chain of bankruptcies, affecting your subcontractors and other businesses within your supply chain. 

The key to avoiding this type of scenario is to be proactive in managing your relationships with suppliers. Ensure you’re regularly reviewing their financial health and credit ratings, and have backup suppliers in place in case of emergencies. Additionally, it’s important to have a robust risk management plan in place, so you can anticipate and mitigate the potential impact of supplier bankruptcies on your business. By taking these steps, you can reduce the risk of supplier bankruptcies and protect your business from the devastating effects of supplier failure. 

• Build strong relationships with your suppliers: Develop a good rapport with your suppliers and build a sense of trust and loyalty. This can help you get the best prices, better lead times, and more flexibility when things go wrong. 
• Be prepared for emergencies: No one can predict when a supplier will go bankrupt, but by being prepared for emergencies like these, you can minimise the impact of a potential supplier failure on your business. Have a list of backup suppliers, store a cash reserve, and ensure a robust risk management plan is in place. 

• Keep an eye on your suppliers: Regularly monitoring your suppliers’ financial performance, credit rating, and payment history can help you identify potential problems. 

Running out of cash 

One of the biggest challenges that small construction companies face is cash flow problems and a lack of working capital. Cash flow and working capital are critical to the financial health of any business, but they can be especially challenging for smaller construction firms, margins can be small in the industry and expenses tend to be high. 

The problem is that small construction companies often have limited cash reserves and rely heavily on payments from clients to cover expenses. Before you know it, the cash flow dries up, and you’re left scrambling to pay bills and keep your business afloat. 

But it’s not just about cash flow, working capital is also a key factor. Working capital is the amount of cash a business has available to cover short-term expenses, and it’s critical for small construction companies to maintain an adequate level of working capital. Without it, you may find yourself unable to cover unexpected costs, meet your obligations, and take on new opportunities. 

• Stay on top of your cash flow: Regularly monitor your cash flow, and identify potential problems early on. This way you can take action before it’s too late. 
• Diversify your revenue streams: Don’t put all your eggs in one basket, diversifying your revenue streams will help protect your business from the impact of a single client or project. 
• Hire a business or finance advisor: A business or finance advisor can provide you with valuable advice and guidance on managing your cash flow and working capital. They can help you create a budget and financial plan, identify potential problems, and provide you with strategies for addressing any identified issues. 
• Maintain positive relationships: With your bank, vendors and suppliers, this can help you to access credit in the event of an emergency, get better terms on payments and negotiate more favourable conditions. 

Beware of over-leveraging 

Imagine a small construction company local to you, “Builder Inc” specialises in building luxury homes. The company’s had a record-breaking few years and they decide to expand their operations by scaling up operations and taking on more projects and borrowing more money on top of existing debt in order to finance them. They take on several large projects at once, thinking they can handle it all. But as the projects progress, they realise that they’ve bitten off more than they can chew. 

The projects start to run over budget, and the company struggles to keep up with the demands. They find themselves constantly chasing payments from clients and struggling to pay their own bills. Their resources are stretched thin, and they can’t keep up with the quality control and safety standards they’ve set for their own operations. The company suffers from bad management and the company’s reputation suffers as a result. They start losing clients. 

The beginning of the end 

As projects continue to run behind schedule and over budget, the company’s cash flow starts to dry up. They can’t keep up with the payments on their loans, and they start defaulting on debts. Have you started to notice the trend? Bankruptcy doesn’t generally happen overnight, it’s usually a series of losses that traject the business into a downward spiral, and before they know it, they’re in financial difficulties and on the brink of bankruptcy. 

This is a perfect example of a company over-leveraging to try to grow and expand too quickly, without considering the potential consequences.  

By taking on too many projects and borrowing too much money, builders put themselves in a dangerous financial position, and ultimately, it led to their downfall. It’s a cautionary tale for savvy business owners like you who are looking to expand and grow their operations, that it’s important to take a measured approach, consider the potential risks, and be mindful of their debt-to-equity ratio in order to ensure and ultimately preserve the longevity and financial stability of your business.