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Managing a construction enterprise is challenging, to say the least. It’s a world of tight margins, capital-intensive jobs and difficult cash flow cycles. It requires juggling many different parties on numerous jobs simultaneously: employees, subcontractors, vendors, banks, sureties, lawyers, accountants and, most importantly, customers. It’s a difficult industry in even the best economic times. 

This difficulty has increased exponentially in the current economic climate. Jobs have been fewer, competition has been greater, and margins have been slimmer. As such, a contractor’s margin for error has, in many cases, been virtually nonexistent. In many markets, contractors are finally seeing more construction spending and their backlogs are finally growing. 

In such a period, it is more important than ever to closely manage projects for quality and profitability and to avoid the temptation to gloss over or completely overlook items that may have been questioned during slower times. Best-in-class contractors will continue monitoring results closely, looking for any signs that operations or project profitability could be improved. 

Construction accounting becomes particularly difficult due to the sheer number of people whose input is required. Estimators, superintendents, project managers, operations managers and members of the accounting team are all involved with various aspects of the project, and often have conflicting interests and motivations—not to mention varying needs for financial statements and contract accounting. Awareness of potential red flags is essential. 

Lack of Communication 
Any indication of a lack of communication between the project team and the accounting department should be cause for concern. Estimators need accurate cost data to perform their jobs. In turn, they have to provide accurate budget data to the project and accounting team. During construction, the onsite management team plays a vital role, as it is the link between the accounting team and the jobsite, and must be in constant communication to give the accounting team accurate and timely data. If this link breaks down, inaccurate financial data is almost guaranteed. 

Everyone who affects or is involved in any aspect of financial reporting must be on the same page and communicate well and often. Ways to promote this include regularly scheduled meetings, constant and clear communication, and fostering appreciation for others’ roles. There should be no “us vs. them” mentality. Though each part of the team may have different priorities or motivations, everyone is still on the same team. If everyone subscribes to this team mentality, the accounting department will be able to provide information to help operations run more profitably, and vice versa. 

Projects That Are Under-Billed 
When reviewing their job schedules and balance sheets, contractors should be on the lookout for jobs that are under-billed. This is indicated by having costs and estimated earnings in excess of billings in the asset section of the balance sheet. An under-billed project usually indicates one of two things, both of which tend to be negative. 

The first reason for under-billing is the existence of errors or manipulations in the project estimates, which essentially creates an asset for expenditures that should actually be expenses on the contractor’s profit and loss statement. By creating this asset on the balance sheet, the recognition of the expenditures as expenses on the profit and loss statement is deferred until later in the project life. Thus, the decision-makers aren’t seeing a true picture of project profitability. 

Under-billing also could be the result of poor cash flow management. Construction is typically a low-margin, capital-intensive endeavor. For a contractor to successfully fund multiple projects simultaneously, it must stay ahead of the cash flow curve by billing customers timely and collecting quickly. Being under-billed on a given project indicates that the contractor has incurred more expense at a given date than it has billed to its customers. Accounts receivable and accounts payable also must factor into this analysis to see true cash impact. 

Nonetheless, being over-billed is always preferable to being under-billed. Being under-billed can indicate a number of underlying inefficiencies in the operations of a project that result in delays in invoicing customers or recording the transactions in the accounting records. Contractors must understand the impact of being under-billed and, if needed, take corrective actions to shorten the cash flow cycle as much as possible. 

Unusual Fluctuations in Project Margins 
Contractors should be diligent in monitoring job margins throughout the project life cycle—not just once they’re completed. It is imperative that budget-to-actual reports are updated and monitored so any issues can be addressed in time for mitigating actions to be taken. 

It’s often a struggle for contractors to have timely and consistent budget-to-actual data because so many different people and factors affect the data. All parties must agree on the makeup of project estimates, the terminology and methodology of cost codes and phases, and the actual costs. While this is a tough and often frustrating process for the entire team, contractors cannot give up on it. When the contractor develops workarounds or methods to monitor project profitability that don’t necessarily pull in all applicable data directly from the accounting system, they risk flaws or human error in the analysis. 

No project ever comes in exactly on budget and on time; unexpected items always crop up. However, a contractor that diligently monitors its project profitability will begin to learn the team’s tendencies and mitigate problems in advance. Any fluctuations in profitability, especially those that do not match the tendencies of the team, should be investigated quickly and consistently. 
A steadfast financial management process fosters teamwork, accountability, communication among departments, and continual learning and improvement so mistakes aren’t duplicated. 

F. William Aderholt is a member in the Construction Practice at Warren Averett CPAs and Advisors, Birmingham, Ala. For more information, call (205) 769- 3353 or email will.aderholt@ warrenaverett.com

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