How to Improve DSO in Construction: A Proven Guide for Better Cash Flow
The construction industry faces a stark reality – only 5% of subcontractors get paid on time. Most wait 90 days to see their money. Companies need better DSO (Days Sales Outstanding) to keep their cash flowing in an industry where late payments are the norm.
The numbers tell a troubling story. The Construction Financial Management Association found that payments take 83 days on average – way longer than other industries. This slow payment cycle makes it tough for construction companies to manage their DSO. Even worse, when an invoice goes unpaid for 90 days, you’ll only get 70 cents on the dollar. This hits your bottom line hard and affects how you fund projects.
Money needs to flow smoothly for construction companies to stay stable and successful. The reality is harsh – more than a third of accounts receivable payments come in way past their due date. Companies must get better at managing DSO just to survive. The right DSO practices can cut your collection times and make your finances stronger.
This piece will show you eight proven ways to lower your DSO. You’ll learn everything from automating your invoices to setting up collection systems that work for construction businesses.
Understand What DSO Means in Construction
Days Sales Outstanding shows how long it takes a company to collect payment after a credit sale. Construction businesses rely on this key financial metric because it affects their operations and long-term success.
What is Days Sales Outstanding (DSO)?
DSO measures how quickly your business turns credit-driven receivables into cash. The calculation involves dividing your accounts receivable by credit sales and multiplying by the number of days in the period (usually 365 for yearly calculations). Here’s the formula:
DSO = (Accounts Receivable ÷ Credit Sales) × Number of Days
Most industries see a DSO under 45 days as healthy, but construction works differently. The construction industry’s DSO averages around 83 days, much higher than the all-industry average of 60 days.
Why DSO is significant for construction companies
Construction businesses deal with unique cash flow challenges that make DSO vital:
- Extended project timelines: Construction projects take months or years, unlike retail or service industries
- Complex payment structures: Progress billing and retainage practices stretch payment cycles
- Multiple approval layers: Payments need several sign-offs before processing
So, even small DSO improvements can help you discover the potential of your working capital](https://www.k38consulting.com/construction-12/). One company freed up $1.37 million in cash by reducing their DSO by just 10 days.
How DSO affects cash flow and project timelines
A high DSO means your money stays locked in accounts receivable instead of working for your business. This limits your ability to:
- Make timely payments to suppliers and subcontractors
- Start new projects that need upfront materials
- Keep finances stable during seasonal changes
Late payments create ripple effects through the supply chain. Projects slow down when subcontractors don’t get paid on time. This can lead to expensive delays and damage business relationships.
Your business becomes more flexible when you track and improve DSO. You’ll handle surprise costs better and grab new opportunities without worrying about cash flow.
Common Reasons for High DSO in Construction
Construction businesses face much longer DSO than other industries. Payment cycles stretch between 51-83 days. Companies need to understand why this happens to improve DSO effectively.
Slow invoicing and billing errors
The construction billing process remains a “paper-heavy nightmare”. Required documentation like invoices, lien releases, compliance forms, and insurance certificates create many more chances for mistakes. Research shows that billing errors top the list of reasons why payments get rejected. Many construction companies still use manual invoicing systems that slow down the billing cycle and lead to human errors.
Loose credit policies and customer risk
Construction firms often give payment terms to risky clients because they don’t assess credit properly. Your DSO depends on your credit policy. Payment delays happen by a lot when companies don’t check customer creditworthiness before working with them. These delays create a “ripple effect down the supply chain” in B2B construction deals.
Project delays and milestone-based payments
Progress billing and milestone completion drive how construction companies invoice. This creates problems when billing doesn’t match field operations. Change orders pose another challenge – billing disputes arise when they lack proper documentation or approval. Retainage practices make things harder, and contractors might wait years to get their full payment after finishing a project.
Economic and seasonal factors
Economic downturns make DSO longer as customers spend their limited money elsewhere. The construction industry sees regular seasonal changes that affect how people pay. These patterns can skew DSO measurements if we don’t relate them to the bigger picture. Recent studies show the industry’s sensitivity to economic changes – payment delays have raised construction costs by about $280 billion in 2024.
Companies must understand these root causes to put DSO best practices in place and collect payments faster.
8 Proven Ways to Improve DSO in Construction
Eight practical strategies can help your construction company reduce DSO and maintain healthy cash flow. These approaches will help you get paid faster and improve financial stability.
1. Automate your invoicing process
Paper-based invoicing leads to errors and delays. Automated invoicing systems reduce human error and optimize approval workflows to speed up payment cycles. Companies that automate their invoicing collect payments 90% of the time before they need to file liens.
2. Offer multiple payment options
Limited payment methods create barriers to getting paid. Your clients will abandon transactions 81% of the time if they can’t use their preferred payment method. Your business should accept ACH transfers, credit cards, digital wallets, and wire transfers to match your clients’ priorities.
3. Perform credit checks before onboarding clients
Your team should assess payment histories before bidding on projects. Credit reports from Dun and Bradstreet or Experian Commercial help you evaluate how clients handle payments. Levelset’s Contractor Profiles also provide payment speed scores based on data from 3 million active projects.
4. Incentivize early payments with discounts
Early payment discounts motivate faster payments. These “speedy delivery” incentives benefit everyone – clients save money while you receive faster cash flow. Your bid should clearly state discount percentages to maximize results.
5. Use milestone-based billing structures
Project achievements should trigger payments instead of arbitrary timeframes. Milestone billing ties payments to schedule timelines and provides financial incentives to complete work. This method gives you steady cash flow throughout long projects.
6. Implement a dunning and follow-up system
Automated dunning workflows send payment reminders at the right time and escalate them as needed. These systems handle communications through predefined rules with minimal manual work. Up-to-the-minute tracking shows which customers respond best to different follow-up methods.
7. Outsource collections when needed
Professional collection services can handle stubborn accounts effectively. Law firms create more urgency with their payment demands. Companies with outsourced collection departments report less than 1% write-off of gross revenue.
8. Use AR automation tools and dashboards
Analytics dashboards monitor collection performance in real time. These tools show aging accounts, payment trends, and collector productivity. They help set internal DSO targets, measure against industry standards, and predict cash flow gaps.
Track, Benchmark, and Forecast for Long-Term DSO Improvement
DSO improvement needs continuous monitoring and analysis rather than quick fixes. Your company’s long-term financial health depends on systems that track and optimize collection efficiency.
Monitor DSO trends over time
Your DSO trends analysis through multiple periods tells you more than single measurements. Regular tracking shows patterns you might miss otherwise. An upward trend could point to collection or credit policy issues, while downward trends show better efficiency. You can spot seasonal patterns through consistent monitoring and prepare for times when DSO naturally rises.
Compare against industry standards
Construction companies have an average DSO of around 83 days, which is much higher than the all-industry average of 60 days. This context matters because a “good” DSO varies by industry type. Your metrics compared to direct competitors give better insights than general targets. Many businesses find value in breaking down DSO by customer type, service line, or region to spot problem areas.
Use forecasting tools to predict cash flow gaps
Construction companies can make smarter financial decisions with cash flow forecasting tools. Modern software combines budget data with consumption curves to predict program and project cash flow accurately. The best tools let you plan different scenarios to model financial outcomes and prepare for uncertainty. Your forecasts should adapt to business changes to avoid cash flow surprises.
Set internal DSO targets and KPIs
Your payment terms should guide realistic DSO targets that become standards for improvement. A DSO matching your standard payment terms shows excellent performance – with Net 30, a DSO of 30-35 days means your collections work well. The Collection Effectiveness Index (CEI) adds another view – a CEI above 85% shows strong collection processes. Your internal KPIs should track these improvements and recognize success when it happens.
Conclusion
Lowering DSO stands as one of the quickest ways for construction companies to boost cash flow and stay financially stable. Waiting 83 days or more for payment creates huge pressure on operations, especially when you have to buy materials and pay subcontractors well before clients settle their bills.
Companies that add automated invoicing, smart payment choices, and proper credit checks see their collection times improve dramatically. These businesses then gain an edge over competitors through better use of resources and lower financing costs.
Your DSO improvements need ongoing attention, not just a quick fix. Construction firms that watch their numbers against industry standards, set achievable targets, and use forecasting tools set themselves up for eco-friendly growth. This helps turn cash flow management from reactive to proactive.
Without doubt, construction companies face unique payment challenges. The strategies in this piece show you how to overcome these hurdles. Pick the methods that tackle your specific payment issues first. You can add more approaches as your collection process gets better.
Note that small changes add up to big results – cutting DSO by just 10 days can free up millions in working capital for your business. Now is the time to boost your collection process, before late payments put unnecessary strain on your construction company.
