One of the biggest financial challenges for a construction subcontractor is waiting 30 to 60 days to get an invoice paid. Most commercial clients and general contractors demand credit terms as a condition of doing business, leaving little room for negotiation. The subcontractor must offer payment terms to win the contract.

Offering credit terms can expose subcontractors to financial risk. Some risk comes from slow payments, which expose companies that don’t have financial reserves to cash flow problems. The greater risk, however, is that a client may never pay. This results in bad debt, which could jeopardize the company.

From a financial perspective, the best approach is to provide payment terms only to clients with good commercial credit. The easiest way to determine a company’s creditworthiness is to obtain a commercial credit report.

Commercial credit reports are among the most useful – and underutilized – business resources in the construction industry. If used correctly, credit reports can minimize bad debt and help build a portfolio of good paying clients. The three best-known providers are Dun & Bradstreet, Cortera and Experian Commercial.

Credit bureaus build credit reports through multiple sources of information, the most important of which is client payment history. Bureaus tap an extensive network of businesses that share client payment information. They also acquire public records such as judgments, legal filings and liens. Credit bureaus combine this information and analyze it though a scoring mechanism to create a report and propose a credit limit.

Although most reports include this credit limit suggestion, it should be treated as just that—a  suggestion.  Subcontractors should review the report carefully and arrive at a credit conclusion that matches the company’s risk tolerance.

Analyzing Credit Reports
Most credit reports show the prospect’s trade payment history at the top. This is the most important part of the report and
enables the reviewer to quickly determine if the client is a good payer or a slow payer. Additionally, if the prospective client pays slowly, the report estimates the payment delay.

Additionally, the report provides the current number of reported trade lines (vendors actively providing trade credit to the client). This figure is critical because reports with many reported trade lines are more accurate than reports that show few trade lines.

Obviously, if the report shows that the prospective client has a history of paying very late, or has a negative trend, credit should be declined.

The last step is to review the open judgments and liens. Companies with numerous judgments or tax liens should be considered high-risk clients.

Evaluating Credit Reports
Evaluating credit reports from construction companies, general contractors, subcontractors and construction vendors can be challenging. The problem is three-fold. First, companies that report data are often small and mid-sized subcontractors and vendors that don’t always keep accurate accounting records. This inaccuracy can lead to unreliable payment trend information and, ultimately, to bad credit decisions.

Second, the construction industry tends to be litigious, and most mid-sized and large companies are likely to have lawsuits and judgments. Lastly, companies in the construction industry usually have a higher-than-average number of liens, often due to equipment financing and payroll issues.

Because of these three issues, most construction industry credit reports may appear to render a company unworthy of credit. Interpreting reports and arriving at a credit decision requires a certain level of skill, judgment and risk tolerance. However, the following rules of thumb may be useful.
  1. Payment data can be inaccurate; therefore, if the company is small, only consider reports with a minimum of seven active trade lines from different vendors. If the company is bigger, expect more trade lines. The more vendors, the more accurate the payment data.
  2. Small-claims judgments should not be a problem, as long as they are not too numerous and as long as their combined value is not too large.
  3. A large number of judgments (or a single, large judgment) could be a serious problem. Examine trends and size.
  4. Liens resulting from financing activities (e.g., loans and equipment financing) should not be a problem as long as the financed amount is not excessive.
  5. Liens resulting from unpaid taxes (usually payroll) could be a problem, especially if they have not been settled quickly.
  6. Companies with payment trends that are deteriorating quickly should be avoided.  This trend could indicate financial problems.
  7. It’s better to decline credit than to deal with bad debt.
When it comes to the creditworthiness of large customers or contracts, the evaluation should include reports from multiple credit bureaus, as each one has its own network of reporting companies and its own credit scoring methods. Unfortunately, they also have their own inaccuracies. Using reports from multiple bureaus provides a more balanced and complete view of the prospective client, thereby reducing the risk involved in credit decisions.

Note that it is impossible to make a credit decision that is 100 percent safe. Risk cannot be eliminated; it can only be managed.

Marco Terry is managing director of Commercial Capital LLC. For information, call (877) 300 3258 or visit