Written Procedures Produce Effective Collection Strategy

Fri December 22, 2006 - National Edition
Elizabeth Machalek



Prevent cash flow problems by establishing effective written procedures for your company’s collections program that employees can follow. These procedures should identify subcontract negotiation strategies, as well as processes for addressing problems as they might arise during the course of a project.

Before Work Begins

It’s much easier to address payment concerns with a contractor or owner up-front, rather than once a project has begun. Make it a policy to condition your bids on terms that will address potential cash flow problems. When that is not possible, negotiate key payment terms, clarifying any terms that seem vague or contradictory.

One option is to condition your bids on the use of the American Institute of Architects (AIA) A401-1997 “Standard Form of Agreement Between Contractor and Subcontractor,” which contains equitable payment terms that are widely accepted in the construction industry. ASA’s “Subcontractor Bid Proposal Form (2005)” contains instructions for conditioning your bid proposal subject to the acceptance of an AIA A401-1997, plus bid conditions developed by ASA.

If bid documents specify that the customer’s standard subcontract form will be used, take a different approach. Write a scope letter stating that your bid is subject to mutually agreed upon clarifications and changes.

If you’ve never done business with a particular general contractor or construction manager before, find out everything that you can about its track record. Use ASA’s National Business Practices Interchange (NBPI) or your local ASA chapter BPI. Be on the lookout for any history of payment abuses such as improper back charges and excessive deductions. You may want to focus your attention on negotiating acceptable subcontract terms in the offending areas (if any). At the very least, you can prepare yourself, and your staff, to be more aggressive in collecting payment in the areas that have proved problematic for the GC or CM in the past.

Consult ASA’s model contract addenda to help you fashion an addendum to attach to the customer’s proposed subcontract agreement, prefaced by language such as:

• Subcontractor hereby accepts the terms of the attached subcontract subject to contractor’s agreement with the terms set forth in this Addendum, which shall supersede any conflicting terms in any other contract document. Any of the Contractor’s terms or conditions in addition to or different from this standard adden-dum are objected to and shall have no effect. Contractor’s agreement herewith shall be evidenced by Contractor’s signature hereon or by permitting Subcontractor to commence work for the project.

In the addendum, be sure to clarify the date of monthly progress payments, as well as final payment terms. Pay especially close attention to provisions related to retainage, making sure to clarify rates, reductions, and when the retainage is to be released in full. Propose to eliminate or reduce retainage, if not on all your work, then on part of it, such as the last half.

Suggest that all remaining retainage be released when your work is substantially complete, rather than when the project is complete. When possible, eliminate “pay-when-paid” clauses that permit slow payment, and “pay-if-paid” clauses that could undermine your entitlement to payment. If you choose to accept pay-if-paid or pay-when-paid terms, it becomes all the more imperative to ensure that the subcontract guarantees your access to project financing information, such as ASA’s “Addendum to Subcontract (2005)” does:

Financial Information — The subcontract is subject to credit approval by subcontractor, and subcontractor shall be provided with the legal description of the property, the name, address and representative of the project owner financing, and a copy of customer’s payment bond for the project, if any.

Customer shall promptly notify subcontractor of material changes in the project owner’s identity or financial arrangements. Subcontractor shall not be obligated to commence or continue subcontract work absent adequate assurances of payment.

Such language will ensure that you can demand assurance of the owner’s ability to pay and expect to be kept up-to-date in case of financing problems. In most states, if the customer does not provide such assurance in a timely manner, the subcontractor can suspend work.

Never Casually Waive Lien Rights

Never should a subcontractor waive, in whole or in part, any rights to assert a mechanic’s lien, except for material and work for which it has ben paid in full. If you waive your lien rights, you lose an important tool for obtaining payment if the customer is unable — or unwilling — to pay. Tom Sacher, Masco Contractor Services Inc., Daytona Beach, FL, emphasizes the importance of preserving lien rights.

“ Our customers know it is the policy of our company not to give up lien rights. By using the statutory tool at our disposal, it inevitably leads to better pay habits from some of our slower paying accounts. When our customers decide each month which of their subcontractors ’have to be paid,’ we want to be on the priority list.”

It’s a good idea to familiarize yourself with local lien provisions, before a project if possible. Keep in mind that lien laws are designed with the intention of giving subcontractors security interest in the real property being improved because it is generally not practical to reclaim one’s material or the product of one’s labor by repossession in the event of nonpayment.

Sacher noted, “ Lien laws were designed to level the playing field between owners, GCs, subs and suppliers. A lien gives us an additional collection tool to use when our customer cannot or will not pay us.”

Make it company policy to contractually require customers to provide copies of any surety payment bonds up-front. Be sure that the bond includes the name of the bonding company, the protections it provides, and any mandatory notice and claims provisions. It’s much better to have this information on file, “just in case,” than to have scramble for the paperwork once a crisis has hit.

At this point, it will be clear to your customer that prompt payment is important to your company. But your foundation is only half complete: Don’t let it crumble because of lack of aggressive collection efforts once the project is under way. Incorporate the following strategies into your ongoing collections program to see results.

Reach Out and Touch Someone

Your collections procedures should include a system for routine follow-up via telephone. At the outset of your communications, be sure to get the customer’s name and address, and find out who is in charge of accounts payable on its end. Assign routine follow-up telephone calls to a member of your staff who is familiar with your company’s billing process and payment records. Persistence is the name of the game when it comes to collections. So is timeliness. Set a schedule that will allow your staff to keep on top of payments every step of the way.

For instance, call a few days after submitting a major bill, and request a copy of the approved bill for your records. Three days before a major payment is due, call to remind the customer that you are counting on the payment. Don’t let a due date pass you by — take action. Call the very first day payment is late to find out why you were not paid. Press for a new commitment as to when you will be paid, and record the specifics of the agreement so that you can quote the customer’s words back, if necessary.

If payment is not received upon this new date, follow up with another call to the person who made the promise — or with his or her superior. Show them that you take their promises seriously.

A common excuse offered to subcontractors at this point is that “the check is in the mail.” Your collections process should aim to eliminate all payment excuses and delays. So, if you are not convinced that payment will be sent immediately, arrange for the check to be picked up. If it’s not convenient to go by the customer’s office, arrange for a courier. Discuss the details of the pickup, including the name of the contact person on the other end, his or her precise location, and the appointed time for the courier to pick up the check.

Also, be sure to include in your collections procedures a method for dealing with payments for less than the amount billed. Again, don’t “wait and see” if the remainder will be included in the next payment — make the call immediately and get a full explanation, since there probably won’t be one included with the shorted check. You should have an approved copy of the requisition to back up your argument.

Use Your Leverage

Subcontractors have a certain amount of leverage that they can use while a job is under way. Use yours to handle problem situations. As an example, consider the advice offered by Mike Dominici, The Circle Group, Alpharetta, Ga. He suggests waiting to submit warranties and closeout documents, or to complete changes or extra work, until payments are current.

Applying your leverage in this manner puts pressure on the customer, eager for the project to move forward, to keep its payment promises. But be careful of how long you wait, to avoid missing critical deadlines for submitting critical paperwork or being accused of default.

There are some practical ways of using manpower levels for leverage. One way is to announce and carry out a progressive reduction in the number of job-site employees if payment continues to be delayed. It should be noted that many subcontracts do not permit work stoppage for nonpayment. Indeed, some expressly prohibit it and levy damages for such actions. Thus, work slow-downs and stoppages for nonpayment should be considered carefully. But do use your leverage wherever you can.

If, for instance, you are approached for a special consideration such as a scope change, or to perform work out of sequence, make your agreement contingent on favorable payment terms and/or removal of payment obstacles.

When it comes to retainage, use your skillfully negotiated subcontract terms as leverage for payment. Be sure that the rate agreed upon is what you are actually getting. And remind the customer of any reductions in retainage you are entitled to under the subcontract terms. Check to be sure that your billing reflects the rates and reductions allowed by your documentation.

Retainage is one the most tricky and time-consuming payment matters for subcontractors. ASA member Rick Duffney, credit manager, Wengner Corp., Owatonna, Minn., noted on ASA’s Online Discussion Group on Construction Subcontracts that collection of retainage at the end of the job is made especially difficult by contracts that make final completion of the whole project the trigger for final release of retainage.“We never seem to know when the project is complete, which makes it very difficult to follow up in a systematic manner.”

ASA member Stephen Rohrbach, Rohrbach Inc., Allentown, Pa., said that his company has been successful in incentivizing zero retainage by implementing a discount program for prompt payment with no retainage held.

“Our average collection period had dropped by about five to seven days.”

Document Delays and File Claims

Documentation is of the utmost importance when it comes to delays. In your subcontract, include a provision for prompt notice of project delays and other problems, in order to ensure that you will have adequate time to prepare valid claims. Furthermore, document everything regarding claims for project delays, acceleration of work, interference or other unforeseen developments.

Develop the paperwork to prove that you acted appropriately and within the specified time frame. File a delay notification letter immediately, and be sure to date and sign the document.

If payments or payment assurances are not forthcoming, file a mechanic’s lien or payment bond claim before the filing deadline passes. The tricky part about lien and bond laws is that they vary from state to state. It is imperative to stay on top of specific deadlines, documentation and other requirements for the particular area in which your firm is performing work.

Most formal claims can be prepared by your own staff. But for claims that involve the recovery of large amounts of money, consider consulting professionals to assist with your recovery efforts.

Call In the Experts

Your solid, aggressive collections strategy should help you effectively follow up on scheduled payments. Your efforts for progress payments and small claims will usually be more effective than if you were to bring in a third party. But using a collection agency can be a wise choice for dealing with large claims, collecting on past-due items for completed projects, or projects terminated prior to completion.

If you feel that you don’t have adequate leverage, or are no longer in a position to make demands because a job is over, consider turning to professionals to help you collect payments. Many subcontractors choose to employ collections agencies simpy to help them save time so that they can focus on current projects.

To help limit the cost of having a collection agency work for you, try to arrange for payment to be based on a percentage of the amount that the agency is successful in collecting. And be careful to choose an agency that you can feel confident in.

Seek out those that specialize in construction accounts, as they will be familiar with industry payment terms, practices and laws.

When it comes to collections, remember that your strategy must include both offense and defense: negotiate fair payment terms in your subcontract, and then be sure to hold all parties to the agreements that were made.

Establish an aggressive collection program based on timeliness and persistence: follow up on payments with telephone calls; use your leverage to increase pressure for payment; and if the situation worsens, protect your interest by filling liens or claims.

If necessary, call in the experts and hire a collections agency. But throughout the entire process, remember to make collections a priority for your construction subcontracting firm in order to maximize results.

(Elizabeth Machalek is ASA’s manager of communications and marketing.)

© 2006 Foundation of the American Subcontractors Association/Naylor Publications (www.contractorscompass.org ). Reprinted with permission.