FAQs – Construction Industry Payments
There is a lot of discussion in the industry relating to construction financial management and the construction payment process. Here, we try to answer some key questions…
The UK construction industry is notoriously challenged by delayed and late B2B payments. Why is this sector struggling more than others?
In the majority of industries and in everyday life, we usually pay immediately and in full for any goods and services received. In the construction industry however, projects can be lengthy and interim valuations and applications for payment are necessary to ensure that materials and labour used on the job so far are paid for.
Crucially, at a time when access to bank finance is notoriously difficult for smaller businesses, this also ensures a healthy cash flow for those subcontractors having already paid high overheads for these resources.
In construction there is a tendency to delay payment or pay less than what is due for various reasons and this can lead to disputes. Reasons include the relatively subjective nature of inspections and valuations, quality of work, the exact specification and scope of work, disputes relating to change orders, and the historical inclination for a contractor to ‘pay when paid’.
The wait for an invoice to be paid for those in the construction industry can therefore be more extensive than in other industries.
To what extent do outdated payment processes exacerbate these problems?
Payment processes in the construction industry have historically been inefficient and dominated by manual and paper-based activity. This means that if subcontractors don’t follow the agreed application procedure, invoices can be lost.
Even when applications are received appropriately, payment calculations are vulnerable to mistakes and essential pieces of the workflow can easily be missed or forgotten, all of which results in much to-ing and fro-ing between the contractor and subcontractor to try to rectify the issues and the breakdown in communication.
This is administratively cumbersome, time-consuming and along with increasing the likelihood of delayed payments to subcontractors, breeds mistrust and exposes the contractor to reputational risk and the risk of costly disputes. Given the very low margins general contractors typically achieve from their projects, these risks cannot be ignored.
Has the revised UK Construction Act helped matters?
The Construction Act was revamped and made more stringent in October 2011 (November 2011 in Scotland), with the intention of enforcing fair and prompt payments across the industry by introducing clearer procedures, responsibilities and timelines for claiming payments and recovering costs associated with dispute resolution.
For example, contract clauses such as ‘pay when paid’ – where contractors pass the risk of not being paid down the supply chain by only paying once their own monies are received – are now difficult to enforce.
There are a number of reasons to suspect that the revamped Act hasn’t particularly helped matters – for example, six months after the amendments to the Act, Building.co.uk reported that it seemed some contract drafters were attempting to undermine the revised legislation by ‘toying’ with the new notice requirements and playing with the contract wording. This points to the need for contractors to develop a firm understanding of the payment process and their responsibilities within it for the revised Act to significantly improve matters.
Are more payment-related court cases being lodged under the revised Construction Act?
Where disputes do arise, subcontractors are reluctant to lean on the Construction Act for retribution because their relationship with the contractor is important for future work. Where this does occur, it is usually as a last resort once the relationship has already broken down. Even then, it is rare to see evidence of these cases in the press given the poor light it throws upon the contractor and subcontractor, and the negative impact this could have when going out to tender or competing for future projects.
Without approaching law firms, it is therefore difficult to say exactly what impact the Act has had on reducing the number of disputes that turn legal.
What we do know is that the August 2016 report from the Asset Based Finance Association (ABFA), the body representing the asset based finance industry in the UK and the Republic of Ireland, stated payment delays in the construction sector increased 22% over the previous 6 month period from 67 days to 82 days.
This clearly illustrates that late payments continue to be an issue for the sector and one that needs to be addressed not just through legislation, but through the provision of technology to ensure best
practice and good intentions are exercised via more automated processing of applications and payments.
How can digital, automated accounts payable processes help subcontractors get paid on time?
The key to overcoming some of the most common payment-related challenges is to couple best practice, as indicated through the revised Construction Act, with improved collaboration not just between contractor and subcontractor, but within the contractor’s internal payment process.
Rather than dealing with reams of paperwork, the best way to manage this process is through a central repository that allows greater transparency of payment processing on both sides, integrates key dates and notifications to ensure Construction Act compliance, allows accurate reporting against budget and across the supply chain, and encourages a collaborative and trusting relationship between the contractor and subcontractor. Ultimately it’s about improving visibility, control and compliance.
This is where WebContractor from Open ECX comes in; this service provides an online cloud-based portal into which subcontractors can confidently upload their applications in the knowledge that a definitive, automated workflow is in place for handling the processing, calculations, reconciliation, approvals and payments of those applications.
Issues and outstanding costs are flagged and can be quickly resolved through a set procedure, with senior staff being notified should delays occur. This allows speedy dispute resolution and prompt payment approvals, smooths cash flow and improves trading relationships.
The optional digital payment functionality then comes into play to allow provision of a holistic, end-to-end automated payment process that reduces the likelihood of payment disputes. Provided by Mastercard through Optal and fully integrated with Open ECX’s WebContractor solution, the service further speeds up the payment process by providing secure, online card payments directly to the subcontractor. With no complicated administration, digital payments reduce the time and personnel costs associated with manual payments. Each transaction is directly linked to invoice details, providing fully automated reconciliation for both the construction firm and the subcontractor, and a full audit trail on reference fields.