Back to the Basics

The economic environment for the construction industry and business as a whole was strong during the late 90s. Low interest and inflation rates created many opportunities for owners, developers and contractors. One of the biggest challenges in the construction industry was managing and obtaining adequate labor force to perform jobs profitably. While interest and inflation rates have remained at all time lows, the construction industry has softened over the last few years creating many different challenges. While no one can predict where the economy will go next, now is as good a time as any for contractors to focus on the basics and establish a foundation for consistent growth.

Know your Customer
To protect your company from taking unnecessary risks it’s imperative that you know your customers and perform thorough due diligence with regards to reputation, payment history, previous litigation, and overall credit worthiness before taking on new jobs. Much of this information can be obtained through your local contracting community, trade associations and the Better Business Bureau.

Job Bidding/Planning/Monitoring
Contractors should establish standard operating procedures for submitting bids. Start by gaining an understanding of the scope of the project, and the specific needs of the owner. Documented all scope issues in writing, drawings, and/or the contract.

Once an estimator prepares the bid, a second estimator should perform an independent review. An independent review will highlight obvious errors and unusual cost estimates that may be overlooked by the primary estimator. Once the bid has been approved, the bid documents should be reviewed to determine that all required information is being submitted for the proposal. Finally, communication regarding timeliness and job responsibilities between you, the project team, and your customer is critical.

Planning alone will not insure the completion of a successful job. Continuous monitoring of the job progress is necessary. Perform regular job status meetings to discuss the project with the project manager, controller and other key individuals. At these meetings, discuss timeliness and variances between the original bid, and encourage involvement from your management team so that problems can be cured at the earliest stage possible.

Cash Management
Proper cash flow management is critical in all industries, including the construction industry. Failure to effectively manage cash flow can result in lost profits or in some cases the demise of your business.

Effective cash management should begin during the background check relating to the project owner. Once you have determined the credit worthiness of the owner and before ground breaks, discuss the contractual requirements for obtaining payments on billings and retainage, and invoicing protocol.

A cash flow management system is not complete without a projection of future cash inflows and outflows on a month-by-month basis for each job. Projections start with the anticipated production for each month, which are used to estimate labor, material, subcontractor charges, progress billings and percentage completion for each of the related months. After determining when the billings and expenses will be incurred, it’s time to estimate when the actual cash disbursements and receipts will occur. Review your accounts payable policies or payment patterns in projecting the timing of cash outflows, and refer to previous experience with the owner or information obtained during the due diligence to project the future timing of cash inflows. After you have determined all cash inflows and outflows for each job, you need to summarize the information into a company wide cash flow projection schedule. This schedule will highlight cash surpluses and shortages in advance, which should allow you to plan accordingly. Finally, do not put your cash flow projections in stone. On a monthly basis, you will need to adjust the cash flow projections for changes in contract price and anticipated costs as a result of change orders and revisions to cost estimates.

Bankers & Sureties
Your financing and bonding needs should be viewed as a continued process throughout the year. Review your credit lines and bonding limits to ensure that you have adequate financing to meet short-term cash needs and sufficient bonding limits for anticipated contract activity. Capital and bonding are essential; as a result it is imperative that contractors maintain good working relations with their bankers and sureties in order to maintain sufficient operating capital and bonding limits.

No one likes surprises, whether related to a project or the financial statements of your company. As a result, be proactive; meet with your bankers and sureties throughout the year to review strategic and operational developments and interim financial statements. In doing so you will demonstrate your commitment to the industry and be far ahead of your competitors.

Obviously, there are many issues affecting contractors in our current marketplace. However, by understanding and implementing these basic ideas you can begin to lay the foundation that makes consistent growth possible.

Chris Newman, CPA, CMA, is a manager with Berntson Porter & Company, PLLC in Bellevue WA, a full service provider of certified public accounting and value added financial services. Chris is the leader of the construction and real estate department. He can be reached at 425.454.7990 or cnewman@bpcpa.com.