The Risks of Being Small and Poor While Having a Government Contract
It is usual for small business owners to view getting a government contract as a dream. To have guaranteed pay and to work for a trustworthy organization is a good starting point for any business. Many entrepreneurs view it as a way to get big quickly but as big as the dream is, the complexity surrounding the contract increases by just as much.
For businesses that are starting out and are low on cash flow, government contracts are dangerous and, while the intention is to help small businesses, it is not. Government contracts are not all good. If you are not careful, the contracts are a more expensive liability.
When Payments Are Late
Payment timing to small businesses can be a big risk. Government contracts do not pay quickly unlike with other businesses. A 60, 90, or even 180 day delay is not rare, even in countries with specific government contracts payment due dates. The needed steps for payment, such as approvals and audits, can be a big delay and small businesses often do not have the cash Flow needed to maintain the business until their payment is received.
Large corporations with big cash reserves, credit lines, and established cash flow can wait months to get paid, but a small business cannot. When you are operating on thin margins and every dollar counts, waiting months for a check can choke the ability to keep your business operating. Employees want to get paid, suppliers want to get paid, and you can’t negotiate rent. There is also equipment that needs to be maintained and it will not pay for itself.
It is not uncommon for small businesses to go bankrupt after winning a government contract simply because they run out of cash before the government pays.
Upfront Costs
A lot of cash is also needed upfront to be able to win government contracts. In construction, IT services, consulting, manufacturing, or maintenance, you are expected to finance the entire vprojec before you see a single cent. This can include:
Hiring employees.
Training employees.
Purchasing equipment or construction materials.
Obtaining compliance certifications.
Obtaining required insurance/bonds.
Traveling to government sites.
Submitting required documentation.
Financing these requirements can be quite the risk when money is tight. Some businesses will take out loans to finance the requirements under the assumption that it will be paid back once the contract is completed. What happens, however, if the payment gets delayed or the contract gets canceled? The underfunded business is left with a debt that cannot be paid.
The Bureaucracy Can Consume You
Completing government contracts is manageable, we understand that. The only thing is the contracts have extremely complicated compliance obligations. Bidding, documenting examples, compliance, invoicing, and reporting can be time-consuming, followed by expertise while managing paperwork. It’s all-consuming.
Moreover, selling and reselling governmental/contracts is not the same as providing a service to a private customer and having a flexible approach. The process is incredibly drawn-out and systematic. Government organizations adhere to strict, drawn-out protocols with no wiggle room on the timeframes. Steps such as signing documents, proper formatting on invoices, and correctly detailed clauses greatly impact the time it takes to process payments, if they ever get paid at all.
When you’re a small business, every single hour should ideally be spent on building the business, marketing, improving the product, or gathering new and alternative clients. These time-consuming activities are highly destructive as they are time not spent improving the business.
You Must Play by Their Rules—Even When the Rules Don’t Make Sense
During government contracts, the clients impose and add an extensive list of new rules and regulations that alter and dictate the way you run your business such as:
- If you can hire and who applicants may be
- The rate/salary that is acceptable to you
- Limitations on your own procurement process
- Possible suppliers you may purchase from
- The amount of reporting that is and is not required, and for what purpose
- Right for the client/supplier to impose an audit
- Deadlines that are not negotiable
For the most part, these are reasonable stipulations for a larger corporation who has the scale necessary to accommodate such regulations. However, for small scale startups or companies that are still at an early stage of contracting, such rules can impose significant limitations on the system and greatly add to the costs as well.
You can’t just pick cheaper suppliers, renegotiate the terms, or shift due dates when the emergencies arise. In the government space, compliance is more important than convenience, and compliance negligence, even when unintentional, can lead to losing the contract.
Losing the Contract is More Devastating than Winning the Contract
There is a common danger that small businesses face, which is to over-rely on a single government contract, and it is easy to see why. These contracts can appear very large and enticing, and just like that, entrepreneurs are pausing their marketing, dropping other clients, or restructuring their businesses around this one contract.
But, as soon as one government contract is relied upon, the business is essentially controlled by that contract’s political and administrative cycle. If the contract is awarded elsewhere, or the funding ceases, the business can completely lose its main source of income in a day.
There is no cushioning the impact on the business. No contracts, no lost business compensation, no future work guaranteed, and no severance. A lot of small businesses fail because they central their entire business model around one government client that can disappear at any moment.
Compliance Mistakes Cost Money
The government supervises the service at a high level. If billing, timekeeping, documentation, or reporting is incorrect or not provided, the service can be subject to audits, fines, and even termination of a contract. The risk of these kinds of errors for small businesses without legal and compliance support is even greater.
Concerning large government contracts, your business may have to prove that you did everything to perfection and it’s even possible they will need proof for several years down the road. It is their right to audit you long after the contract ends. If you failed to keep your records, don’t be surprised to find yourself owing money.
The Opportunity Costs Of Contracting With The Government Can Be Extremely High
Government contracts, while large, always feel large because they are. But margins are very thin. Government agencies almost always go with the lowest bid. This means businesses are forced to compete based on price rather than value. If you are a small business in the early stages and underfunded, it can be suicidal to drop your price just for the sake of winning a contract.
At the end of the day, you may end up getting a large contract from the government, but after you cover expenses, there will be virtually nothing remaining for profit.
What is worse is that many costs are unexpected. These kinds of contracts can also lead to large scope changes, requirement overrides, or even new compliance changes. Smaller companies will be the ones absorbing the losses, and they are the ones without the buffer.
Government Clients Don’t Move at Your Speed
Agencies move at a reduced pace. Their internal processes are crafted with extreme caution in order to mitigate risk with no consideration for innovation or a more rapid pace of movement. If you are a small, nimble startup expecting rapid authorization or swift implementation of an unconventional idea, you are in for a negative surprise.
A straightforward decision can take a long time due to the need for a sign-off from a variety of offices. Even a small alteration to the order can take a significant amount of time. The project can be delayed for reasons completely unrelated to your performance, such as internal assessments, changes in personnel, freezes in the budget, or elections.
Organizations built with an emphasis on momentum can become frustrated in situations where the rate of progress is extremely slow.
Energy and Time Get Pulled Away From Real Growth
The most significant consequence of working with the government, especially for smaller entities, is not negative financial performance, but rather the adverse effect on the organization’s strategy. The time spent on government work becomes a competitor to the time spent building your company. It can take a lot of time for entrepreneurs to submit a government proposal.
This is time not spent on:
Building products
Improving services
Finding and onboarding more lucrative clients in the private sector
Marketing
Networking
Streamlining operations
The time spent on government contracts can detract from your efforts at building a truly scalable business.
Conclusion: Government Contracts Are Not Free Money. They’re A High-Stakes Gamble.
That doesn’t mean small businesses should shun government contracts altogether. Many businesses have realized great success with government contracts. But really small, under-capitalized, and inexperienced businesses may be well-advised to not chase those contracts.
The government is not like private customers, it is slow, bureaucratic, and merciless. You have to have running cash, high-quality admin and legal systems, and the patience to wait months on seeing a return.
You should consider postponing your government contracts if your company is still young and cash-strapped, and focus on strengthening your company. Improve the capital base, increase client diversification, bolster operational capacity, and progress gradually through the system.
While a government contract can be a boon to your business, it can also be a burden if you are not prepared.
