In a lot of ways, the construction industry is distinct. Every single project is different, and roles and responsibilities change depending on the contract you sign. Construction parties also have a legal remedy for payment recovery – no other industry allows its participants to file a mechanics lien to pursue payment from delinquent clients.
Construction projects also involve multiple players. Managing a construction project is no easy task, and so does managing the flow of funds through the different construction stakeholders. Construction sales are also typically made on credit, which makes credit managers one of the most important pillars of a construction business.
What is credit management?
Credit management is a process that involves managing everything related to credit, from setting credit limits to granting credit to customers, all the way to collecting and recovering payment from clients.
In construction, nearly all sales are made on credit. This means that clients pay at a later date after the labor, materials, and other services have been furnished. Credit management, therefore, plays a significant role in making sure that a company gets paid for its services and does not take dangerous financial risks that can put the business in peril.
What does a credit manager do?
In construction, credit managers are responsible for a multitude of tasks. On a high-level scale, credit managers are the ones responsible for granting credits to clients and making sure that the clients pay up.
On a more granular level, credit managers do the following:
- A credit manager sets the credit limit for all clients.
Credit managers protect the company by ensuring that the clients do not buy services they cannot afford. Credit managers must, therefore, set a credit limit for every client. The credit limit caps the maximum amount that a client can “borrow.”
- A credit manager assesses the risks associated with lending credit to the clients.
When credit managers set the credit limits, they do so by analyzing the risks associated with the clients. If a client has been historically delinquent in previous projects, they are most likely considered “high risk” clients, and the credit limit will be set at a lower amount.
- A credit manager mitigates and minimizes the impact of the identified risks.
Risk assessment is done periodically, not just when setting the credit cap for a client. A client’s financial status can rise and fall at any point, and a financial hiccup can result in late payments. It is the credit manager’s task to identify risks like these and prevent them from turning into major financial issues.
- A credit manager enforces the necessary penalties and steps to ensure that credit sales are paid off.
The construction industry is notorious for late payments, and the credit manager must implement the necessary steps to ensure that late payments are addressed and recovered. They can do so by enforcing late payment penalties, among other measures.
How important are credit managers in construction?
Credit managers are extremely important in construction. To illustrate, let us look at how a general construction material sale takes place:
- A client orders 1000 cubic meters of pine lumber worth $200,000.
- You sign a contract with the client to seal the deal.
- You deliver the lumber to the worksite on the agreed schedule.
- You send the client an invoice indicating the amount to be paid and the payment terms.
- The client pays the order within 30 days, and you close the books.
In an ideal, well-oiled company, a credit manager will be involved in every step listed above. It is the credit manager who answers the following questions:
- Can the client afford to order $200,000 and pay this amount within a reasonable amount of time?
- What are the payment terms and conditions that must be included in the contract?
- When should the client pay after the order has been delivered?
- What happens if the client does not pay the amount after the lumber has been delivered?
Credit managers, therefore, play a key role in running a construction business. Credit managers ensure that the sales are not made haphazardly by doing rigorous risk assessments, and they make sure that the clients pay off the services that they purchase by implementing robust payment collection policies.
What are the responsibilities of construction credit managers?
Developing and improving the company’s credit policy
Every construction business that makes credit sales must have an effective and robust trade credit policy. A credit policy is a document that details how a company makes credit-related decisions, from setting criteria for approving and rejecting credit applications to collecting payments from delinquent clients.
Approving and rejecting credit applications
Credit managers are also responsible for approving and rejecting credit applications based on the company’s credit policy. This task is tougher than it seems. Credit managers need to make tough decisions all the time to ensure that they do not reject a potential sale without good reason.
Keeping records of all credit-related transactions
Not only are credit managers responsible for making tough decisions — they are also in charge of making sure that everything is documented properly. Credit management involves tons of paperwork, and it is the credit manager’s responsibility to ensure that all the books are accurate and organized.
Ensuring all credit sales are paid off by clients
While many construction companies have a dedicated accounts receivable team, the credit manager is ultimately responsible for ensuring that all payments are received. Credit managers must understand the reasons why clients fail to pay on time, and they must find solutions to make sure that they pay up.
Recovering payment from non-paying clients, if necessary
When payment delinquencies occur, credit managers must take all the necessary measures to recover payments from clients. One of the most effective methods for payment recovery is by filing a mechanics lien. Credit managers must therefore ensure that their lien rights are protected in every project.
9 effective qualities of smart credit managers
Now that we know what a credit manager does in the construction business, we can take a deeper look into the habits and traits that make an effective credit manager.
A good credit manager is financially literate.
To be an effective credit manager, one must have the necessary financial know-how, especially in the context of the construction sector. A good credit manager must understand how construction budgets are set and how construction funds are sourced.
A financially illiterate construction manager may be vulnerable to fraud, and they will also have a hard time navigating through the complex structure of construction projects.
A good credit manager knows how to make data-driven decisions.
Credit managers make tough decisions all the time. A good credit manager must therefore know how to make these good decisions without being easily swayed by emotions.
When making decisions, credit managers must look into the data and must take into account objective metrics. Otherwise, they will likely make flimsy decisions that could be detrimental to the company and their clients.
A good credit manager understands the importance of quantitative measures.
There are many key performance indices or KPIs available to measure different aspects of credit management. There is the day sales outstanding or DSO that measures how quickly the clients pay what they owe, and there is the collection effectiveness index or CEI that gauges how much of the money the clients owe has been successfully collected.
A good credit manager understands the importance of these quantitative metrics and uses them accordingly to make informed decisions.
A good credit manager has an entrepreneurial mindset.
To be effective in their job, a good credit manager must have an entrepreneurial mindset. They must understand that the core part of their job is not making friends with clients or pleasing all project stakeholders — it is making sure that the company makes money.
Credit managers must keep the entrepreneurial mindset, especially when developing credit policies and when making tough decisions on the job.
A good credit manager knows how to prioritize.
As in every job, things can get overwhelming as a credit manager. Multiple clients can miss their payment deadlines. At the same time, there may be piles of credit applications waiting on your approval or rejection.
Knowing how to prioritize properly is, therefore, another trait that an effective credit manager must have. If you do not set your priorities properly, you may end up losing important clients and losing money.
A good credit manager has charisma.
Credit management is a client-facing role. Because a credit manager directly deals with clients, a good credit manager must know how to use their charms to ensure that clients are satisfied. Conflicts and problems may come up, and part of being an effective credit manager is knowing how to be charismatic to pacify the tension.
A good credit manager is proactive.
Credit management is no simple task, so a good credit manager does not just wait around. Being a proactive credit manager can mean doing the following:
- Serving preliminary notices in every project
When a client goes missing after receiving the invoices, the best way to recover payment from them is to file a mechanics lien. Credit managers must, therefore, preserve their right to filing a mechanics lien by serving preliminary notices in every project. In most states, serving a preliminary notice is required before any party can successfully record a lien.
- Evaluating credit and lien policies regularly
Credit and lien policies may have loopholes, and a proactive credit manager must regularly audit and evaluate their existing policies to look for possible lapses. There will always be room for improvement, and credit managers must seek ways to improve their processes.
- Monitoring DSO and other metrics
KPIs such as day sales outstanding and collection effectiveness index can help a credit manager detect warning signs before they turn into major financial problems. A proactive credit manager monitors these metrics to identify potential issues and address them as they see fit.
- Serving preliminary notices in every project
A good credit manager has excellent communication skills.
Payment delays and disputes often crop up due to lapses in communication. A good credit manager, therefore, knows how and when to communicate with the right people. Having good communication skills not only means knowing what to say, but it also implies understanding how to establish communication lines with the relevant project stakeholders.
A good credit manager is a good problem solver.
When faced with issues and challenges, an effective credit manager would know what to do depending on what the situation calls for. Some of the possible challenges and recommended solutions are summarized in the table below:
How does an effective construction credit manager prioritize?
When deciding what to prioritize, credit managers may use the following table:
The table above shows four main quadrants of priorities based on risks and sales. High-risk clients are considered more urgent, while low-risk clients are considered not as urgent. Similarly, high sales clients are considered important, while low sales clients are considered not as important.
When setting priorities, credit managers should consider Priority 1 first as they are the most important and most urgent. For example, if a high sales client has consistently missed their last three invoices, it is a good time to do an in-depth analysis and understand the root cause of the payment delay.
Clients that fall under Priority 2 — low risk and high sales — are not as crucial, but the business relationship must be protected. A good credit manager will touch base with these clients periodically to prevent low-risk issues from escalating into major problems.
Priority 3 clients — high risk and low sales — must also be given attention. Unlike Priority 1 clients that need in-person intervention, Priority 3 clients could get automated phone calls or email reminders, as well as the appropriate penalties for missing payments.
Priority 4 clients — low risk and low sales — may be deprioritized. The business relationship must still be protected, but all forms of communication may be otherwise delegated to automated mechanisms (e.g., regular email reminders).
Best practices in construction credit management
Send out your invoices on time.
Credit managers must ensure that invoices are managed properly. Note that one of the common causes of late payments is invoices that are sent out late. If the clients do not receive the invoices on time, they will not know how much they owe and will therefore not issue the payment on time.
One way to improve your invoice management processes is to take advantage of existing technologies. There is invoice management software available that will help you send your invoices on schedule. A good invoice management software also keeps your invoices organized and helps you track and monitor them as needed.
Implement a robust credit policy.
Credit policies are important in standardizing your company’s credit management policies. Without a credit policy, credit managers and analysts are left to make decisions without a guiding document that aligns with the company’s mission and vision. Not having a credit policy also makes a credit manager vulnerable to making poor, misinformed decisions.
Note, however, that having a robust credit policy is not a catch-all solution for all credit management challenges. Making decisions is not as simple as following some set of guidelines. Some calls are tougher to make, but having an airtight credit policy will surely help in making these decisions.
Train your team in making effective payment collection calls.
Late payments frequently happen in construction. It does not matter how careful you are in vetting your clients and in making sure that proper measures are in place to avoid delayed payments; your clients can still miss their payment deadlines for various reasons.
Your payment collection team must therefore be properly trained in making collection calls. You want your payment collections team to make calls that result in promises to pay, if not actual payments. They must be prepared when calling the clients, they must also know how to take thorough notes during a call, and they must understand how to communicate to the clients the consequences of paying late.
Serve preliminary notices and file mechanics liens as necessary.
The most effective method in recovering payments from non-paying clients is filing a mechanics lien. A mechanics lien is a legal public record of the outstanding payment debt, and it can dissuade potential buyers and financiers from investing in a property. When your clients fail to pay up, filing a mechanics lien is one of the best ways to ensure that you still get the money.
In most states, construction participants must serve a valid preliminary notice prior to filing a mechanics lien. Preliminary notices are usually sent at the beginning of a project. To ensure that your lien rights are preserved, be sure that you serve the required preliminary notices. If necessary, file a mechanics lien so you can recover your hard-earned money.
Further reading