September 2002
By JAMES S. ANCHIN, CPA
Barring a crystal ball view into the future, an economic turnaround remains elusive. While banks and sureties continue to re-evaluate their financial risks and insurers continue to restrict coverage and raise premiums, contractors are forced to use every tool in the box to maintain and demonstrate their financial stability, especially when it comes to their financial reporting systems. The following is an overall look at how good financial reporting can help contractors head off unfavorable situations before they become real problems.
Good financial reporting is predicated on collecting the right information and analyzing it properly and regularly. Doing this monthly will help you to identify trouble spots much sooner than if you look at data quarterly or semi-annually.
For the best results in data collection, project managers are the ones who know the real story. Consult directly with them. Look for five data categories that add up to a true picture of a project: 1) the original budget, 2) current budget, 3) cost-to-date, 4) purchase orders in the works and 5) a forecast of costs at job completion.
Once gathered, all of this data should be fed into your accounting system. It's also advisable to get a number for pending change orders, which will give you a heads-up on potential claims you may have at completion.
Forecasting should be updated regularly and supported by hard data in areas such as size of the field crews, remaining work, expected completion dates and unforeseen problems. Job cost accounting systems that segregate budgets from forecasts are ideal, but you must have accurate current costs to make the system work. Not entering invoices will only produce a false cost picture. Your job cost system should allow you to enter an invoice, without actually paying it, so you have an up-to-the-minute take on job costs while still having time to approve invoices.
All this data is important, but it must be measured in sufficient detail to be meaningful. And it should be analyzed monthly, preferably by an executive, the project manager and the project superintendent. The Work in Progress schedule, which indicates your contract over billings and under billings, should also be reviewed on a regular basis. Persistent under billings can signify a potential shrinkage in profitability and can be a pre-cursor to cash flow problems. If spotted early, it can be addressed more effectively.
Tracking the forecasted vs. actual job revenues and costs over the life of a project will speak volumes about your project managers' performance. Stable or increasing profits will indicate realistic project managers; wild fluctuations and/or declining profits may indicate project managers who don't have a handle on their jobs.
Tracking your backlog is also critical. Is it remaining steady, and if not, why not? What about job profitability? Is it increasing or decreasing over time? What kinds of workÑand which project managers Ñ generate the most, and the least, profits? Do your markets generate reasonable margins?
Your system's job cost reporting structure should be set up, not only to track profit by project manager and by work type, but to indicate each job's profit contribution both monthly and at the end of the project.
Take your bank or your surety's approach to scrutinizing your current ratios. Are they increasing or decreasing? But still within acceptable levels? Closely examine your current ratios for fluctuations that signal problems.
Review your cash position. Always know how much cash you have Ñ and how much availability you have from your bank line of credit. Is it enough to cover your job cost needs? Many contractors do a cash flow projection for each project.
With banks becoming increasingly more concerned about a company's accounts receivable, contractors should pay close attention to trends in their accounts receivable balances. A rising accounts receivable balance and deterioration in the aging may signal that your projects are in trouble and warrant in-depth examination.
What about overhead? If it's on the rise while profits are dipping, the company could be in for tough times. One tricky area for contractors is equipment. When equipment can't be charged to a job, it can inflate overhead costs. In some cases, it may be better to lease the equipment rather than own it outright.
Contractors with steady backlog and profits, stable over and under billings and acceptable debt ratios are usually in good financial shape. However, if one financial indicator is off Ñ even slightly Ñ it's critical to go back to the numbers and determine the source of the problem. As always, but particularly in this economy, rigorous financial analysis and early problem resolution can determine how well you perform.
About the author: Mr. Anchin is a managing partner of Anchin, Block & Anchin, LLP, a regional certified public accounting firm with offices in New York City and Westchester, that specializes in meeting the needs of contractors in the tri-state area.