As much as we wish we could, you can’t entirely predict when an economic downturn will occur, nor how detrimental it will be. Many construction and real estate business owners struggle to find footing today as inflation, a decrease in working capital, tightened lending practices and a dwindling backlog affect the industry. Though it may seem sustainable now to take a “wait and see” approach, we strongly recommend doing what you can to improve your business’ financials and competitiveness regardless of economic fluctuations. It’s best to embrace a forward-thinking mindset when it comes to managing your construction or real estate business, so you can better help solve the current critical needs of your business and contribute to a profitable future.
In this article, we discuss why maintaining a strong balance sheet is a key factor in surviving an economic downturn.
The Importance of the Balance Sheet
The balance sheet shows a company’s financial position at a certain point in time through the valuation of assets and liabilities. There are many financial ratios that banks and investors will use to determine the financial strength of a company. While these ratios can be complex, it’s important for business owners to focus on a few to keep your business operating and poised for expansion.
Fine-tune your reporting
When analyzing your balance sheet, you must have accurate, reliable, real-time reporting. One of the most important balance sheet ratios is your working capital. This shows how current assets compare to current liabilities. If you’re looking to investors or lenders to strengthen your business, this key area cannot be overlooked. The higher your working capital, the stronger your overall position. If you find that you need to improve this number, there are steps you can take:
- Verify all current receivables are reported
- Collect on past due receivables to generate cash
- Accurately state and manage inventory
- Ensure that contract assets and liabilities are based on realistic estimates of job performance and costs to complete projects
- Essential or revenue generating equipment should not be sold. These assets are needed to add value to your financial position and for future work, when economic conditions will allow you to expand
- Sell excess or non-essential equipment to generate cash
- Refinance debts that are coming due in the following year
Another important ratio to consider when creating a secure balance sheet is your debt–to–equity ratio. In this case, the lower the ratio, the stronger the company’s equity position. Banks and investors will use this ratio as a guideline for your company’s ability to last through the downturn and provide you with the assistance needed both now and in the future. One strategy to strengthen your position may be to reduce or cut owner dividends or distributions. This can allow your business to keep operational and personnel expenses at an unchanged level while your company weathers the storm of economic downturn. Further, another strategy includes looking at managing discretionary payments and considering how expenses can be realigned.
With economic downturns, the silver lining is that it is historically followed by a period of economic recovery. Your focus during an economic downturn should be strengthening assets, reevaluating debt and strategically cutting expenses so you can be prepared to expand as we enter a recovery. While you need to stay mindful of managing your current operations, you cannot overlook taking action to reach your long-term goals. A strong balance sheet will help guide the success of your business growth, even if our current environment presents uncertainty.
For more information about how to strengthen the balance sheet of your construction or real estate business, please reach out to our team today: