Payment Cycle Drivers

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From the course by Columbia University

Construction Cost Estimating and Cost Control

605 ratings

Columbia University

Construction Cost Estimating and Cost Control

605 ratings

Course 3 of 4 in the Specialization Construction Management

This course introduces the types of cost estimation from the conceptual design phase through the more detailed design phase of a construction project. In addition, the course highlights the importance of controlling costs and how to monitor project cash flow. Students will work on a break-even analysis of construction tasks in a project.

From the lesson

Project Cash Flow

Ben Miller, Project Manager at Gilbane Building Company, discusses contracts and cash flows. Revenues, expenses and how they impact projects as a whole will be covered.

Cash Flow Method14:16

Accrual Method8:11

Contractor Cash Flow6:51

Charting Cash Flow3:30

Calculating Billing7:29

Payment Cycle6:56

Payment Cycle Drivers5:57

Payment Cycle Delays12:34

Meet the Instructors

Ibrahim Odeh, Ph.D., MBA
Instructor, Department of Civil Engineering and Engineering Mechanics, Columbia University
Director of Research and Founder, Global Leaders in Construction Management

All right, so like I said, we're going to talk about what drives our pay cycle.

Why there's this lag here between earning revenue,

billing revenue, and actually seeing revenue.

Now, why might that happen?

Why might we see that lag?

Well, part of it's just operational, right?

We know about this relationship.

The trade contractor has to send the bill to the general contractor.

So it goes up to the general contractor,

they're going to review it, they might have comments.

They might not agree that things are as complete as the trade contractor says.

And that general contractor is going to submit a bill to the client, and

the client may want to review it, all right?

That takes time.

And then there's also the accounting processes where the client agrees there is

what's known as a certification period which is the time where the client and

the general contractor are reviewing the work.

So the client receives the bill and then the client sends money to the contractor.

First the client has to send that bill to their accounting department.

The accounting department has to process it.

So they process the check, the general contractor gets paid, and

then the general contractor he has all of the traits.

That takes time.

It's not simple, right?

Companies don't want to just send money without checking on things.

And also you might have a financial review.

Most major projects involve an outside lender.

They involve a bank loaning a client money so

the that the client can complete a project.

And, what we have to think about is the fact that,

the loan is leveraged against the future value of the building or the project.

The loan isn't against the fact that, hey we have a good idea.

The loan is really saying at the end of this there will be a product,

there will be a building in place.

And so lenders want to make sure that, not just that

the work completed is valued at the right number here.

They want to make sure that if the contractor walked away and

didn't finish this work, if they left this project,

that the remaining value would be enough to complete the project, that's key.

And that bring us to our next consideration

which is strategic payment cycle drivers.

Right, so why strategically might you want to hold payment?

Well for the general contractor, this actually makes a little sense, right?

For the general contractor, let's give some leverage.

Leverage is the biggest thing here, right?

If we got paid immediately, if we submitted our bill, immediately got paid.

Right here, say at the end of month one, we submitted and we got paid.

We would see a profit.

[BLANK AUDIO] We would see a profit immediately as

the trade contractor, is that good thing?

It depends who you are.

If you're this trade contractor, this seems great, right?

You've got money, you've got money in the bank that you can use,

that you can buy materials with, that you can buy supplies with.

You aren't paying interest, but this is also a little bit of an issue.

If you're the general contractor, what's the issue here?

It's great that you pay your contractors early, right?

Whoever pays this contractor probably gets the best attention from them,

they probably get the most attention.

If I call this trade contractor up and need something, and

I'm paying them routinely, paying them regularly, they're going to respond.

But like I said, if we're paying them right away, they have profit.

If I'm paying them even a little too soon, they might see profit.

What's the problem with that?

Why would that be an issue?

Well, let's say they even got paid right here, right in between,

right here at this point where they still aren't getting paid the retainage,

but they got paid relatively quickly.

If this contractor all of a sudden gets a chance at a better job, a job where they

might make more money overall, a job where their profits are higher.

If they've got the profit already on this job.

If they've secured some of the profit they can earn more elsewhere,

they might want to walk away, they might say okay, thank you.

We've made money, but we're ready to be done, and we understand your project isn't

done, but we're going to go ahead and leave, and we'll continue down the road.

Now, without doubt, that would be an issue, that's something

that contractor couldn't do on a continual basis, but we need to consider that.

We need to consider that we want to make this project,

or this contractor incentivized.

We want this last payment to be everything this contractor is looking for.

That's why we have this delay in payment.

And now we're going to look at the real impact of this delay in payment.

We're going to figure out what this area here means, right?

We know that this difference is capital but,

what's this whole shaded spot and what does it mean to us?

That's what we'll discuss next.

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