Delayed payments have been a significant concern for the construction industry. Both bespoke and standard forms of construction contracts have laid down guidance on the path to be taken when payment is delayed.
However, even with those measures in place, the challenge remains. When a project owner fails to pay the main contractor in time, it may trickle down to the sub-contractors, suppliers and possibly the staff of the organisations involved in the project. Therefore, it is important to look at the series of effects that can be triggered by a delay in the payment process.
Since construction is both a labour- and capital-intensive endeavour, cash flow is an important component of a successful construction project. The payment schedules spread along the project duration are meant to avail cash to the contractors to finance the project.
When that does not happen as stipulated, it affects the overall cost of the project, the estimated project duration and the relationship between the involved parties. Further, it may also affect their access to credit facilities in a way that will negatively impact the ease of doing business.
As identified above, these effects are discussed in detail as follows:
Expensive Projects
Delays in honouring payment certificates by the employer can trigger a lot of things.
To begin with, the contractor will not have money to continue executing the project; especially if they highly depend on timely payments to fund the next phases of the project. This means that work progress may slow down.
As the contractor initiates measures to have the client pay, it will take up time and monetary resources. Contractually, the client will pay interest on any overdue payments at a rate specified in the signed contract. In the end, the estimated project cost will be exceeded.
Also, sub-contractors’ and suppliers’ pricing when bidding for a new project is partly influenced by the reputation of the main contractor and the project owner. If the project owner or the main contractor is notorious for delayed payments, they will submit overpriced bids to cover the financial risk of payment delays.
Consequently, a project that would have cost less will cost more due to the adjustment for the risks. Some may not be willing to work with them making it even harder to get competitive prices.
Construction Schedule Disruptions
Further, payment delays can lead to a disruption in the progress of construction works on site.
In a situation where the client/employer continuously fails to honour payment requests, the contractor has the right to slow down work. This however is based on the provisions of the contract they are bound to. In any case, the contractor should engage the employer in negotiation after issuing the relevant notices of possible work disruptions.
If the issues persist, the contractor can choose to suspend works on-site to prompt the client to pay. In other cases, the matter can be referred to an adjudicator.
Although this is an extreme case, every day lost chasing down payments while works are stalled on site is a disruption to the initially estimated project duration and construction schedule. It means that the project will be delivered later than the estimated time. It will have a commercial cost on the employer, especially if the completion of the project at a specified time means income starts to flow back to them after occupation.
Negative Relationships Between Parties
Payment issues between the main contractor and the client have the potential to trickle down to the sub-contractors and suppliers. If disagreements arise, as a result, it can lead to arguments and parties blaming each other. Suppliers who rely on contractors to pay them will blame the contractors, while the contractors blame the project owners.
Pressure may potentially mount if the issues are not well managed; sparking a conflict which will hurt the relationship between the involved parties.
As a result, time is wasted in the reconciliation process. If the issues balloon to uncontainable levels, other dispute-resolution mechanisms may be employed. These include mediation, arbitration or a formal court process (litigation). Notably, these processes if not well managed will compound to produce a negative effect on the relationship of the involved parties.
Cashflow Problems and Limited Access to Credit Facilities
In business, cash flow is king. It has a bearing on the financial status and creditworthiness of the company.
Continued delay in payments means there is a disruption in the construction company’s cash flow. It will necessitate a company to take a credit facility to finance the payment of salaries and other employee remuneration. In the case where such facilities are not available, late payment of salaries could make a company unattractive to top talent in the industry.
Also, banks and other financing institutions gauge the creditworthiness of a business by its cash flow. They may decide to charge exorbitant rates to cover the risk of non-payment of loans.
Even in the case where the rates are regulated, defaulting on loan repayments attracts interest and penalties. Penalties and interest on capital borrowed by the contractor to finance part of the construction project can put a company in financial distress.
Also, material suppliers may withhold credit facilities from contractors who don’t pay on time. By asking for cash payments on delivery, it means that a contractor or sub-contractor will be required to raise more money in advance to get the ordered goods supplied to them.
Effects on the Ease of Doing Business
Also, smaller businesses that have limited access to financing might be reliant on getting paid to take care of other business needs that require monetary commitment. Stuff like paying rent, paying workers and remitting taxes. A delayed payment could trickle down to impacting these business aspects.
Defaulting to pay taxes could mean you are slowly kicking yourself out of business. Some governments make it mandatory to have a tax compliance certificate for companies to participate in the tendering of public projects. In other cases, renewing business permits requires you to be tax-compliant. If your financial ability to comply with these requirements is affected, it becomes even harder for you to do business. In the worst scenario, you can be kicked out of business.
Conclusion
To conclude, failure to honour payments; whether on the part of the client, contractor, sub-contractor or supplier is not a good practice. It can lead to costly construction projects, disruption of the planned project schedule, cash flow problems, limited access to credit facilities and a strain on the overall ease of doing business. With that in mind, every project participant should work in the best interests of the project. The payment process should be collaborative, from the preparation of payment requests and claims to depositing cash in the payee’s account.