Financial reporting and accounting are not new concepts; and since the inception of accounting there have been mistakes, which lead to corrections and adjustments.  The following is a list of eight common financial reporting and cash management mistakes that should be evaluated and corrected before your fiscal year-end.

Cash Management

  1. Review vendor contracts and invoices. Determine whether discounts are available for timely payment of invoices or whether rebates are available for annual purchase volume with vendors. A 1 percent discount or rebate on $1,000,000 of materials saves the company $10,000. Contractors can realize significant cost savings by negotiating and utilizing vendor discounts or rebates.  Prior to year-end, contractors should evaluate vendor relationships and negotiate terms to realize these potential savings within the next year.
  2. Reconcile bank accounts in a timely manner. Bank reconciliations have long been a strong internal control for contractors but timely reconciliation (even at interim dates or via online banking) can be used to facilitate better cash management by repaying lines of credit, thereby reducing interest costs or utilizing available cash to pay vendors and realize discounts as noted above.  Contractors can create a cash management policy to define expectations involving line of credit borrowing, initiation of sweep accounts with the bank, policies regarding timeliness of vendor payments.
  3. Review contract receivables and evaluate allowance. On a monthly basis, review contract receivables and evaluate the allowance for doubtful contracts for consistent accuracy of financial reporting. Few contractors like to increase their contract receivable allowance; therefore, a strict policy or formula to adjust contract receivables can be used to motivate project managers and staff responsible with collections.  This leads to increased outreach to customers with past due balances via emails, phone calls, and meetings; which tend to improve collections and thereby improve contractor cash flow.
  4. Evaluate financial reporting for multiple users and review accounting method. While banks and bonding companies typically require GAAP financial statements, many contractors can reduce income tax (or pass through income) by analyzing whether the cash basis of accounting is allowable in their circumstance. By utilizing different methods of reporting for financial and income tax purposes, contractors can better align their cash inflows from receivables with outflows for income taxes.

Financial Reporting

  1. Evaluate whether your company is utilizing the proper accounting software. Contractor accounting software is available with varying functionality across many price points.  Smaller contractors often sacrifice functionality for price.  Larger contractors often pay for functionality but fail to utilize software to its fullest.  Contractors should evaluate the following:
    1. The ease of reconciliation between subsidiary ledgers for contract receivables and payables to the general ledger
    2. The ability to reconcile cash to the bank
    3. Integration of work-in-process module with both general ledger and estimating software
    4. Calculation and allocation of construction overhead across contracts.
    5. Ability to upload employee time from remote applications like cell phones and iPads from the field
    6. Routing of invoices electronically through the office for proper approvals
  2. Measure financial covenants at interim dates to forecast year-end compliance. Covenant compliance can have a significant impact on a contractor’s banking relationships.  Ongoing evaluation of covenants at interim dates, twelve month rolling average calculations, and comparison of financial covenants to budgets can indicate potential compliance issues prior to year-end.  Based on these calculations, contractors may be able to change the timing of dividends, cash payments, and fixed asset purchases to achieve compliance with fixed charge or liquidity covenants.
  3. Review construction costs annually. Verify all direct costs are properly charged to contracts, payroll, and benefit allocations are based on employee time cards, and overhead calculations are inclusive of all remaining contract costs (depreciation, repairs, small tools, insurance, etc.). Evaluate whether the overhead rate is consistent with historical rates and reflects any operational or budgetary changes expected. Determine whether the overhead rate is fully absorbed by contracts-in-process.  Annually updating the overhead cost rate can have a significant impact on the recognition of revenue and profitability of contracts, which effects financial reporting and covenants.
  4. Review contracts-in-process and evaluate the expected cost to complete each contract. In theory, this is done monthly, but how often are complete evaluations actually done?  Has the cost to complete been updated to reflect all costs, contingencies, and change orders?  Fluctuations within these amounts can significantly affect under/over billings and revenue recognition.  Instituting a formalized process to document management’s expectations with regard to the completeness and accuracy of contracts-in-process, assign staff at various levels (foreman, superintendents, and accounting staff) to evaluate contracts-in-process, and emphasize the importance and requirement that loss contracts are timely accrued.  By adhering to a strict standard of evaluation, contracts-in-process schedules will yield more accurate results and improve the reliability of financial reporting to avoid “watered down” results leading to misinformed decision making.

For further information regarding any of these policies, contact our construction team today.