Cash Flow Forecasting

Cash flow forecasting in construction

projects

Dr. V. Thiruvengadam

Concepts of cash flow forecasting

Project Cash Flow
Project Cash Flow refers to the cash inflow due to income and
cash outflow due to disbursements (expenses) over the project
period.
Net cash flow is the difference between the income and
disbursements during the project period.
A positive cash flow means the income exceeding the
disbursements during the project period.
A negative cash flow indicate that the disbursements exceeding
the income during the project period.
For a construction contractor, the progressive payments (monthly)
from the client constitute the income component. The typical cash
disbursements are; project start up costs, payments to labour,
material suppliers, equipment hire charges, subcontractors costs
etc.

Dr. V. Thiruvengadam

Concepts of Cash Flow Forecasting

Cash Flow Forecasting

The estimation of the quantum and the timing of the cash
incomes and cash disbursements over the project period is
termed as Cash Flow Forecasting.
The Cash deficits determined in the cash flow forecasting forms
the basis for the working capital requirements of the contractor.

Dr. V. Thiruvengadam

Concepts of Cash Flow Forecasting

Project Cost (Cost of Work)
The cost incurred to carry out the construction is termed as cost
of work. The cost of work has two components;
Direct costs on account of material, labour, equipment
usage, subcontractor payments, etc. directly inbuilt in the
construction activities.
Indirect costs on account of overheads and operational costs
like office expenses, salary, taxes, etc. associated with the
Project Cost Curve
project.
A graph showing monthly cumulative costs vs. the project period
is called project cost curve.
The cumulative cost component could be worked out for the
individual cost components like labour, material etc. to plan the
cash requirements for these components over project period.
The project cost curve is developed based on the activity costs,
durations and their occurrences in the project schedule

Dr. V. Thiruvengadam

Concepts in Cash Flow Forecasting

.Value of Work
Value of work is obtained by adding the desired profit margin
(markup) to the cost of work. Profit margin expressed as a
percentage of cost of work.
If 10% is the profit margin
Value of work = (1+0.01) cost of work
= 1.10 times cost of work
Cost of work = (1/1.10) Value of work
= 0.91 times the Value of work

Profit margin could be uniform on all items of contract or varying for

different items.

In a front loading strategy, profit margins are kept more on early items
like foundations and structural works to improve positive cash flow.

Dr. V. Thiruvengadam

Cumulative cost and cumulative value

Profit margin could be uniform on all items of contract or could be
kept varying for different items.
In a front loading strategy, profit margins are kept more on early
items like foundations, structural works to improve positive cash
flow.
Cumulative
Value

Profit

Cost

Cumulative
Cost

Period

Dr. V. Thiruvengadam

Cumulative cost and cumulative value

Value

Cost

Cost

Period

Dr. V. Thiruvengadam

Cumulative direct cost components

Total Cost

Material

Cumulative
Costs

Labor
Equipment

Subcontracto
r

Project Period

Cumulative cost profile for individual direct cost

Dr. V. Thiruvengadam
components

Cost histogram and cumulative cost

profile

Costs

100
80
60
40
20
0

Costs

Cost histogram represents the cost incurred during specified

intervals (weekly or monthly) over the project period.
The cumulative costs at specified intervals are obtained as sum
of the previous costs and the cumulative cost profile is
developed. The end point of cumulative cost profile is the
project total cost.

50
0
40
0
30
0
20

M1

M2 M3 M4

M5

M6

M7

0
10
00

M8

Project Period (Months)

0 M1 M M M4 M5 M6 M7 M8
2 3
Cumulative
Cost Profile

Cost
Histogram
Months

M1

M2

M3

M4

M5

M6

M7

M8

Monthly Costs

50

60

70

80

60

50

40

20

Cumulative Costs

50

110

180

260

320

370

410

430

Dr. V. Thiruvengadam

% Cumulative Costs

Project S-curve
120
100
80
60
40
20
0

2/3
1/3
T
T Time Period

Project S-curve represents the cumulative cost profile of a

construction project. The profile follows a lazy S-curve pattern
indicating less cost incurrence in the early and end part and
more cost incurrence in the middle part of the project.

Dr.

The S-curve cumulative cost profile is obtained through 1/4thV. Thiruvengadam

1/3rdrule meaning;
1/4th cost (25%) incurred in the first 1/3rd time

1/2 cost (50%) incurred in the middle 1/3rd time

% Cumulative Costs

Project S-curve

Dr.

120
100
80
60
40
20
0

1/3
2/3
T
T
Time Period

The shape of S-curve could vary depending upon the project

characteristics.
Construction types using prefabrication technology involve
more costs in the initial fabrication period compared to
V. Thiruvengadam
installation costs in the later period.

Project S curve
Example problem on S-curve

A project costing 80 lakhs is planned to be completed in 6 months

period. Determine the monthly and cumulative cost requirements using
standard S-curve principle.

80
20

80
70

60

60

30
20
10

80

40

50
40
20
20

% Cumulative Costs

90

Period
Months

Monthly Costs

10

10

20

20

10

10

Cumulative Costs

Dr. V. Thiruvengadam

20

60

80

Project S curve
% Cumulative Costs

Use of S-Curve

Dr.

120
100
80
60
40
20
0

2/3
1/3
T PeriodT

Standard S-curves are used for obtaining approximate the cash

forecasts during the early stages of the project like feasibility
studies, tendering stage.
V. Thiruvengadam
Cash flow forecasting of different types of projects like offices,
residences, factories, roads and bridges developed from the
cost data of past projects for usage in the early stages of

Need for Cash Flow Forecasting

Cash flow forecasting is necessary to establish the financial viability
of the investment proposal during pre-project phase of the project.
Economical analysis of projects using methods like Net Present Value
(NPV), Internal Rate of Return (IRR) require reasonable estimation of
cash outflows (expenditure streams) and cash inflows (revenue
streams) over the project life period.
Adverse situations (risks) that may occur on cash flows needs to be
evaluated to predict the impact of these risks on the financial
outcome of the project.
As lenders of money, financial institutions carry out detailed appraisal
on the projected cash flow of the project to evaluate and decide on
financing
Financial viability
Ability to pay the interest and repay loan
Adequacy of equity contribution by borrower (debt-equity ratio)

Dr. V. Thiruvengadam

Need for Cash Flow Forecasting in

PPP projects
For PPP projects implemented through BOT basis
(or its variants), cash flow forecasting during
concession period of the contract is of utmost
importance for evaluating the financial viability
of these projects with the consideration of risks
that would impact on the cash flow streams.
BOT projects have long concession periods with
uncertainties in revenue stream and inflationary
effects.

Dr. V. Thiruvengadam

Need for Cash Flow Forecasting for

Contractors
Cash flow forecasting is essential for construction contractors in the
following stages:
Tendering (bidding) stage
1. To plan the bidding strategy with desired profit margin, cash
flow forecasting is necessary taking into consideration the
financial conditions given in bid document that would have
bearing on cash flow like advances, retentions, intervals of
valuation of works and progressive payments and likely
payment delays that would increase negative cash flow.
2. To decide on the capital requirements for the project under
bidding.
3. Cash flow positions and commitments of projects already in
hand.
4. Finally to decide on participation or otherwise in the bidding
process.
On successful bidding and contract award
1. To workout the quantum and timing of cash requirements
and plan the anticipated expenditure on various resources
Dr.(workforce,
V. Thiruvengadam
material, equipment, subcontractors etc)

Need for Cash Flow Forecasting for

Contractors
On successful bidding and contract award
1.
To workout the quantum and timing of cash
requirements and plan the anticipated expenditure on
various resources (workforce, material, equipment)
2. To plan the material procurement strategy (cash or
credit)
3. To plan the equipment resource (ownership or hire
purchase).
4. To plan direct employment of labour force or through
output based labour contracts.
5. To decide on subcontractors and payment terms.
6. To plan for the modes of providing securities/
warranties through cash recovery from bills or
through bank guarantees.
7. To workout the quantum of overall investment and
plan the working capital requirements for meeting
the cash deficits.
8. To plan for the short term financing options from the
for the working capital requirements taking
Dr.banks
V. Thiruvengadam
into considerations the repayment terms and interest
payable (cost of capital).

Typical project risks affecting the

project cash flow
1.

Payment related risks:

a) Payment delays by the client.
b) Disputes/ conflicts in the interpretation of contract conditions
causing payment delays (ambiguous contract conditions)
c) Change orders not promptly processed causing days in
payments

2.

Materials and equipment related risks

a) Scarcity of materials
b) Abnormal increase in cost of materials
c) Non-availability of workforce
d) Problems related to equipment

3.

Large changes in project scope/ client requirements

4.

Delays in project approvals by statutory bodies (works awarded in

anticipation of approvals)

5.

Delays in the issues of designs/ drawings by the client

6.

Site not clear for taking up of the construction (work awarded in

anticipation of clear site availability)

Dr. V. Thiruvengadam

7.

Large scale changes in quantities of items

Steps involved in cash flow forecasting

1.

Collection of project details

a) Project time plan (project schedule)
b) Bill of quantities with contract rates of items (value of items)
c) Financial conditions of the contract related to advances, payment
terms, reimbursement for escalations, penalties, etc.
d) Other relevant details having bearing on project cash flow.

2.

Prepare the project schedule in the form of bar chart with activity
listings and durations. Schedules prepared using network techniques
are consolidated in bar chart formats.

3.

Determine activity costs from the itemized costs available in the bill of
quantities. One or more item costs may constitute an activity cost. A
raft foundation activity will involve items of reinforcement, shuttering
and concreting items.

4.

Determine the proportional costs that are expended per unit duration
(per month) of an activity. For some activities the expenses may not
be in a linear proportion over the activity duration. Such breakup of
activity cost within its duration is important for activities which
consume more resources/ cost in the early part and less cost in the
later part of the activity duration. For example activities involving
procurement
and installation of electrical/ mechanical works involve
Dr. V. Thiruvengadam
more cost for procurement and less cost for installation. In such cases
it may be better to keep procurement and installation as separate

Steps involved in cash flow

forecasting
5.

For expenses towards overhead charges, the total cost under this
subhead may be distributed equally over the project periods.

6.

Calculate the monthly (or any other unit period) cost expenditure
of the project by summing up the cost expenditure of different
activities during the month under consideration. This means sum
the portions of activity costs of different activities incurred during
each monthly interval of the project. These monthly costs are
shown in the first row of the table at the bottom of the bar chart.
Calculate the cumulative monthly costs and show in the second
row of the table. (See Fig).These calculations could also arranged
in excel format.

7.

If the value of the activities (which is based on item wise contract

cost which includes profit margin) is used for the generation of
cumulative value of works in a similar manner described above,
then cumulative cost of work is obtained by using the relation:
Cumulative cost = cumulative value/(1 + percentage profit in
decimal)

Dr. V. Thiruvengadam

Steps involved in cash flow

forecasting
8.

Having calculated the period wise (monthly) cumulative value and

cumulative cost of the work over the project period, the remaining
calculations for determining the monthly cash inflows due to
receipts, outflows due to disbursements and cumulative net cash
flow could be worked out in a excel sheet format incorporating the
following details;

Recovery of retention money (outflow) and its subsequent

release (inflow)

Breakup of the costs into its components (labour, material,

equipment, subcontractors) and their cash outflows based on
the timings of their disbursements.

9.

The above steps completes the procedure of developing the cash

flow forecasting of a construction project for a contractor. The
above procedure enables determination of working capital
requirements, profitability, assessment of impact of risks like
delayed payments from the client.

10. The procedure is illustrated through a numerical example.

Dr. V. Thiruvengadam

Calculation procedure for cash flow

forecasting in excel format
Rows related to cumulative values, retention money recovery and
retention money release:
Row 1Enter month wise cumulative values of work.
Row 2Enter cumulative values of work less retention money
Row 3Enter receipts of monthly payments less retention money with
respect to billing cycle usually one month after the value of work executed.
Row 4Enter cumulative values of retention money received back, 50%
one month after end of project execution and balance 50%, 6 months after
project execution (defect liability period)
Row 5 Cumulative cash inflow (3+4)

Dr. V. Thiruvengadam

Calculation procedure for cash flow forecasting in excel format

Rows related to cumulative costs, breakup of costs into
components
Row 6Enter cumulative costs (direct costs)
(Derive from cumulative value with assumption on profit percentage)
Row 7Enter cumulative labour costs.
Make suitable assessment of the labour cost as fraction of total cost (say
25%) paid at the end of each month right from project starting month.
Row 8 Enter cumulative labour payment made
Row 9Enter cumulative material costs
Row 10 Enter cumulative material payment made
Make suitable assessment on the material cost component (say 50%) and
decide on the payment to material supplier (say one month after the
receipt of the payments from the client)
Row 11Enter cumulative equipment component (say 15%) and payment
cycle similar to material supplies
Row 12 Enter cumulative equipment component payment made
Row 13Enter cumulative subcontractor cost (say 15%)
Row 14 Enter cumulative subcontractor payment made
Payment cycle similar to equipment material supplies
Row 15 Cumulative cash out flow (8+10+12+14)

Calculation procedure for cash flow

forecasting in excel format
Rows related to cumulative cash inflows, cash outflows and net
cash flow
Row 10Addition of rows 3 and 4 gives total cumulative cash inflows
Row 11Addition of rows 6,7, 8 and 9 provide total cumulative cash
outflow

Cash Flow

Peaks due
to release
of retention
money

Negative
cash flow
period

Dr. V. Thiruvengadam

Net cash flow diagram

Positive
cash flow
period
Project Period

Profit

Row 12The difference between row 10 (cash inflow) and row 11 (cash
outflow) provides the net cash flow.

Example on cash flow forecasting

1 : CASH FLOW STATEMENT WITH OUT DELAY IN PAYMENT (WITH 15% PROFIT )

Time (months)

10

11

12

13

14

15

16

17

18

Cumulative Value

1.15

2.88

5.75

8.63

11.5
0

14.38

17.25

23.0
0

28.7
5

30.48

31.05

31.63

31.63

31.63

31.63

31.63

31.63

31.63

Cumulative Value less retention

money recovered

1.03
5

2.58
7

5.17
5

7.76
2

10.3
5

12.93
7

15.52
5

20.7

25.8
7

27.42
7

27.94
5

28.46
2

28.46
2

28.46
2

28.46
25

28.46
25

28.46
25

28.46
25

1.03
5

2.58
75

5.17
5

7.76
25

10.35

12.93
75

15.5
25

20.7

25.87
5

27.42
75

27.94
5

28.46
25

28.46
3

28.46
3

28.46
3

28.46
3

28.46
3

Cumulative payment received

after 1 month of Billing cycle

Cumulative retention money

received back

1.581

3.162

Cumulative Cash Inflow

(Receipt) (3 + 4)

1.03
5

2.58
7

5.17
5

7.76
2

10.35

12.93
7

15.5
2

20.7

25.87
5

27.42
7

27.94
5

30.04
3

28.46
3

28.46
3

28.46
3

28.46
3

31.62
5

Cumulative Cost

1.00

2.50

5.00

7.50

10.0
0

12.50

15.00

20.0
0

25.0
0

26.50

27.00

27.50

27.50

27.50

27.50

27.50

27.50

27.50

Cumulative Labor Cost (25%)

0.25
0

0.62
5

1.25
0

1.87
5

2.50
0

3.750

5.00
0

6.25
0

6.625

6.750

6.875

6.875

6.875

6.875

6.875

6.875

6.875

Cumulative Labor payment

0.25
0

0.62
5

1.25
0

1.87
5

2.50
0

3.125

3.750

5.00
0

6.25
0

6.625

6.750

6.875

6.875

6.875

6.875

6.875

6.875

6.875

Cumulative Material cost(40%)

0.40
0

1.00
0

2.00
0

3.00
0

4.00
0

5.000

6.000

8.00
0

10.0
0

10.60
0

10.80
0

11.00
0

11.00
0

11.00
0

11.00
0

11.00
0

11.00
0

11.00
0

10

Cumulative Material payment

made

0.40
0

1.00
0

2.00
0

3.00
0

4.000

5.000

6.00
0

8.00
0

10.00
0

10.60
0

10.80
0

11.00
0

11.00
0

11.00
0

11.00
0

11.00
0

11.00
0

11

Cumulative equipment
cost(20%)

0.20
0

0.50
0

1.00
0

1.50
0

2.00
0

2.500

3.000

4.00
0

5.00
0

5.300

5.400

5.500

5.500

5.500

5.500

5.500

5.500

5.500

12

Cumulative Equipment payment

made

0.20
0

0.50
0

1.00
0

1.50
0

2.000

2.500

3.00
0

4.00
0

5.000

5.300

5.400

5.500

5.500

5.500

5.500

5.500

5.500

13

Cumulative Sub contractor

cost(15%)

0.15
0

0.37
5

0.75
0

1.12
5

1.50
0

1.875

2.250

3.00
0

3.75
0

3.975

4.050

4.125

4.125

4.125

4.125

4.125

4.125

4.125

14

Cumulative subcontractor
payment made

0.15
0

0.37
5

0.75
0

1.12
5

1.500

1.875

2.25
0

3.00
0

3.750

3.975

4.050

4.125

4.125

4.125

4.125

4.125

4.125

15

Cumulative cash out

flow(8+10+12+14)

0.25
0

1.37
5

3.12
5

5.62
5

8.12
5

10.62
5

13.12
5

16.2
5

21.2
5

25.37
5

26.62
5

27.12
5

27.50
0

27.50
0

27.50
0

27.50
0

27.50
0

27.50
0

16

Cumulative Net Cash flow(5-15)

0.25
0

0.34
0

0.53
8

0.45
0

0.36
3

0.275

0.188

0.72
5

0.55
0

0.500

0.803

0.820

2.544

0.963

0.963

0.963

0.963

4.125

3.125

example
Fund
Requirement
based on
Negative Cash
flow
= area of graph
of negative cash
flow region
= average
vertical
coordinate x base
= .409 X 8 =
Rs.3.27lakhs
Hence the
contractor has
to mobilize of
Rs. 3.27 lakhs
during the
period of
negative cash