Maintaining a sufficient amount of working capital can a challenge for small businesses in the construction industry. Not only do traditional lenders tend to shy away from these borrowers, but it can also take a long time for contractors to collect accounts receivable, thus requiring them to float a lot of crucial expenses in the meantime.
Contributing to the importance of being able to access adequate working capital that much further, surety companies typically utilize a working capital calculation to determine bonding capacity. Lenders correctly view working capital as a measure of a company's liquidity and short-term financial health, as well as an indication of the business’ overall operational efficiency.
In short, a company with significant working capital is considered a healthy entity with the potential to invest a portion of those funds and subsequently grow, whereas a company whose current assets don't exceed its current liabilities will have difficulty servicing its debts, which could be a warning sign of an impending bankruptcy.
Working capital, or net working capital (NWC), is just that: the difference between a business’ current assets (accounts receivable, inventory, cash, etc.) and its liabilities. Having enough working capital to keep projects operational while waiting for outstanding accounts receivables to come in is, of course, essential. Employees still need to be paid, expenses continue to ring up, and your own debts need to be serviced throughout the year.
To this end, the amount of working capital you can access at any given moment could make a huge difference to your business over both the long and short-term.
In addition to having the funds required to simply keep the business afloat while waiting for account receivables to arrive, there are numerous advantages to having a sizable amount of working capital available to your construction business. Even when you can perfectly cover your expenses 12 months of the year, that money affords you the freedom to seriously consider expanding your operation, and as such serves as rationale to go out and secure a working capital loan.
In addition to applying these funds to publicize your operation to a new, wider audience, working capital can be used to:
- Hire more workers to either better meet existing commitments or take on new, larger, and ultimately more lucrative projects.
- Grow your business and improve your bottom line by introducing new services.
- Repair, lease or finance construction equipment.
In light of the importance of working capital and the key role it plays in running an efficient, profitable construction business, securing a working capital loan can make a lot of sense under the right circumstances.
However, banks are generally reticent to fund working capital loans to contractors. This situation results from a series of economic factors, among them a history of prominent construction company failures, annual fluctuations in revenue, stiff competition in the sector itself, and the volatility of the industry in general.
Given the historical reluctance of conventional lenders to provide these loans to small businesses -- and construction contractors in particular -- borrowers typically need to go elsewhere to find sources of financing for their respective operations.
Lines of credit can be great for construction companies seeking working capital to expand or maintain their business operations. While it's true that the most common providers of these financial products are conventional lenders (banks and credit unions, namely), lines of credit can also be arranged with various unsecured business lenders and asset-based lenders.
For construction companies, who routinely need to wait 30-90 days to be compensated for their work, the ability to access capital immediately -- without first needing to go through the hassle of securing specific authorization from a commercial lender -- is hugely convenient.
One excellent source of funding available to Canadian businesses comes through the Business Development Bank of Canada (BDC), a Crown corporation operating at arm's length from the federal government.
The BDC offers working capital loans designed to complement your line of credit with next to no personal exposure to risk, since up to 85% of the funds are backed by the federal government. The BDC focuses on small and medium-sized businesses and has a mandate to “create and develop strong Canadian businesses through financing, advisory services and capital.” As such they offer a wide variety of financial products, all with very generous terms, and have shown themselves to be an excellent resource for any small business in Canada.
The only caveat with funding through the BDC is that the application process is lengthy and involved while the qualification standards are prohibitively stringent. Nevertheless, should you review the application process and determine you meet the eligibility requirements, it could be well worth your while.
This type of financing arrangement can make a lot of sense for construction companies in need of relatively short-term working capital while waiting on account receivables to be paid. With a factoring arrangement, the construction company sells these receivables to the factoring company at a discount and in return is able to access those funds immediately.
Because factoring involves actually selling account receivables it's not considered a loan per se but rather a business-to-business transaction.
Alternative lenders are less averse to risk than the banks and as such more prepared to offer working capital loans to companies in the construction sector.
There are other advantages to financing through alternative lenders, chief among them being the relative ease, speed and simplicity of the borrowing process when compared to the big banks. Alternative lenders also tend to be far more flexible with repayment terms than conventional lenders.
Our commercial funding experts can help you build a financing program that fits your needs. Contact us to find out more about Hitachi’s working capital solutions for Canadian businesses in the construction sector.