TheBasicsof ConstructionAccounting& FinancialManagement

ABC&CFMAWebinar
April25,2013

TodaysPresenter:
AnthonyR.Stagliano,CPA,CCIFP (Tony)
National Managing Director of A/E/C Industry Services

CBIZ&MHM,LLC
401 Plymouth Road, Suite 200 Plymouth Meeting, PA 19462

www.mhm-pc.com/construction
(610)8622420 Direct (610)8622470 Fax (215)8138324 Mobile

E-mail: tstagliano@cbiz.com

BasicsofConstructionAccountingand FinancialManagement
Thiswebinarfocusesonbasicconstructionaccounting conceptsandwillprovideanoverview
fromjobcostingtofinancialreporting aswellasconstructionspecificpracticesthatintroduces contractorstoconstructionaccountingfundamentals.

Thesefundamentalsinclude:debitsandcreditsand howtheywork,accountingforjobcost,workin progress(WIP)schedules,percentageofcompletion revenuerecognition,anddevelopingfinancial statements.

ConstructionIndustryBasics

ACCOUNTING istheART of:

Recording& Summarizing
business&financial transactions AND the results.

Analyzing,Verifying&Reporting
MerriamWebstersCollegiateDictionary 10th Edition

CurrentConstructionMarket
DealingwiththerealitiesofaRecovering ConstructionMarket:
SoundFinancialManagementpracticeshelpweather thestorm

UniqueIndustryCharacteristics
Eachprojectisdifferent. Industryisdominatedbysmall, local,family,orprivatelyownedfirms <$10$50M. Revenueisdominatedbymultibillion$$$ international&publiclytradedcorporations. A/E/Cindustryisestimatedat5%ofU.S.GDP.

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ConstructionIndustryParticipants
Owners Architects/Engineers(A/Es) GeneralContractors(GCs) ConstructionManagers(CMs) SpecialtyTrades(Subs) Suppliers

KeyFinancialPartners
ManagementAccountants PublicAccountants/CPAs Sureties InsuranceAgents Bankers ManagementConsultants

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TypesofContracts AllCompanies
FixedPrice/HardBid 43% FixedPriceNegotiated 19% CostPlusFeewithGMP 11% UnitPrice 10% Time&Materials 7% CostPlusFee 6% ConstructionMgmt. 3%
From CFMAs 2011 Annual Financial Survey 2011 CFMA
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TypicalConstructionCompanySetup
CEO/OWNER
Field Operations Project Controls PM
Site Super Site Super

Estimating/ Bidding Purchasing PM

Office Operations Accounting Proj. Acct

IT HR

Site Super

Site Super

Marketing

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BasicDebitsandCredits andHowTheyWork
DEBITS
Assets

CREDITS

Liabilities Equity ____________________________________________ Expenses Revenue/Sales NetIncome

BasicEquation
Assets Liabilities=OwnersEquity Revenue Expenses=NetIncome

Doubleentryaccounting
Everytransactionaffectsandisrecordedintwoormore accounts Totalamountdebitedmustequalthetotalamount credited Thesumofthedebitaccountbalancesintheledgermust equalthesumofthecreditbalances Ifthedebitandcreditbalancesdontequalanerrorhas beenmade Increasesinassetsarerecordedonthedebitsideofthe assetaccounts

Doubleentryaccounting
Whydoassetshavedebitbalances?
Nospecificreason simplyamatterofconvention

Sinceassetshavedebitbalancesthenincreasesin liabilitiesandownersequitymustberecordedascredits Thisresultsintheaccountingequation,A=L+OEandthe requirementthatdebitsmustequalcredits Assets Liabilities OwnersEquity(OE)

DebitsforCreditsfor Decreases Increases

DebitsforCreditsforDebitsforCreditsfor IncreasesDecreases Decreases Increases

T Accounts Cash
Debits
ContractReceipts$100,000 LoanReceipts150,000 ________________________ Totalincreases$250,000 Lessdecreases(150,000) Balance$100,000

Credits

RentPayment$20,000 PaymentofWages100,000 PaymentofTaxes30,000 ________________________ Totaldecreases$150,000

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TheFourMostCommon AccountingMethodsforContractors
Cash Accrual Completedcontract Percentageofcompletion

CashMethod
Cashbasisaccountingrecordstransactionsbased uponthetimingofcashflowsi.e.incomewhen depositedandexpenseswhenpaid Simpletomaintainbecausebillingsandaccounts payablesarenotrecorded Lowadministrativecosts Doesntgivetruepresentationofprofitability NotaGenerallyAcceptedAccountingPrincipal (GAAP)Method

AccrualMethod
Simple billingspostedasrevenue; costs postedasexpenses Methodusedbymostcontractorsuntil convertedtoPercentageofCompletion(PCM) Easytoconverttopercentageofcompletion method Providesgoodinformationoncashflow ThisMethodologyisrequiredbyGenerally AcceptedAccountingPrinciples(GAAP)

CompletedContractMethod
Norevenueorexpense(netincome)isrecognized untilprojectissubstantiallycomplete Revenues/expensesrecordedinbalancesheet accounts Simpletomaintain Maybeavailableforincometaxpurposes Profitabilitynotaccuratelypresentedbygeneral ledger CanbeanacceptableGAAPmethod

PercentageofCompletion
Theconceptunderwhichacontractorrecognizes incomefromfixedpricecontractsasthework progressesratherthantheamountsbilledor collected ThismethodologyisrequiredbyGAAPfor contractors Revenuerecognizedbasedonextentofcosts incurred Workinprocessscheduletiesintogeneralledger ShowsasUnderbillings/Overbillings

ProvisionforContractLosses
Theexpectedlossonanindividualcontractmustbe recognizedinfullwhenitbecomesapparentthat therewillbealoss Thisisregardlessofthepercentageofcompletion

TheFourMostCommon AccountingMethods
ContractInformation: AccountingMethods:
Cash$50,000 Accrual$100,000 Completed Contract$0 Percentageof Completion$150,000 Totalcontractamount$1,000,000 Totalestimatedcosts $800,000 Estimatedprofit $200,000 Costsincurredtodate $600,000 Billedtodate $700,000 Cashcollectedtodate$450,000 Costspaidtodate $400,000

Costtodate $600,000 =75%X$1,000,000=$750,000 TotalEst.costs$800,000 $750,000 $600,000=$150,000

Method chosen has substantial impact on net income

Cash $50,000
Completed Contract

Accrual $100,000

Percent Complete $150,000

$0

Policies&PracticesUniquetothe ConstructionIndustry
Everycontracthasuniqueterms. Everyjobhasdifferenteverything. Customer Location Drawings GC&Subs Project&FieldStaff Estimatingisanintegralpartofjob procurement&revenuerecognition. Changeordersareunavoidable.
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ImportanceofaJobCostSystem
Goals
Understandhowaccuratejobcostingfitsintothe wholeconstructionprocess Understandtheimportanceofknowingallyourcosts Learnwhatcomponentsmakeupjobcosts Learnwhatthreemajortypesofexpensesmakeup indirectcosts Learnthedifferentmethodsofallocatingindirect costsandcoveringgeneraloverheadcosts . .

WhatisaJobCostSystem?
Notpartofthedoubleentrysystem Itisabyproductofthedoubleentrysystem Itistheheartandsoulofthecontractorsjob scorecard Thejobcostsystemdoesntjustkeepscore Ifmanagedcorrectlyitcanbethepredictor ofajobsfutureprofitability
laterwewilldiscusshowitfeedscontractinformation tothecontractinprogress(CIP)schedule

TheComponentsofJobCosts!
DirectversusIndirectcosts:
DifferencebetweenDirectandIndirect Examplesofdirectcosts

Thethreemajormostcommonindirectcost pools chargedtojobs

indirectjobcost/overhead equipment laborburden

ComponentsofJobCost
General Ledger
Detail Accounts
Labor Materials Subcontractors Equipment Indirect Costs

WIP Schedule

down to lowest level of detail

Job #3 Cost by Phase

Need to drill down to lowest level Need to drill of detail

Job #1 Cost by Phase Job #4 Cost by Phase

Job #2 Cost by Phase Job #5 Cost by Phase

TheJobCostSystem
WhatIsIt? WhoUsesIt? WhyIsItImportantforContractors?

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Equipment Management

Purchases Accounts Payable Subcontracts

Inventory

Job Cost

Billing

Payroll

General Ledger

JobCostSystemObjectives
ForManagementAccountants
Provideusefulinformationto decisionmakers

ForProjectManagement
Ariskmanagementtool

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Direct JobCosts
Material Labor Subcontractors Equipment(rentals&installed) Other
Bondpremiums,Permits,etc.

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DirectCosts
DirectCostsIncludeAllCostsWhichCanBe DirectlyIdentifiedwithanIndividualJob. DirectJobCostsAllowYoutoMeasureYour ActualPerformance AgainstYourEstimate.

Indirect JobCosts
Indirectlabor Contractsupervision Tools&consumables Insurances Ownedequipmentcosts Other

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IndirectCosts
IndirectCostsAreThoseCostsWhichCannotBe DirectlyIdentifiedWithaSpecificJob,ButWhich PrimarilyRelatetotheCompletionofContracts.

ConstructionJobCostsExclude
General&AdministrativeExpense SellingExpense Boats,airplanes,vacationhomes, snowmobiles,ATVs,RaceCars,etc. Precontractcostsnormallyexcluded

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General&AdministrativeCosts
General&Administrative(G&A)CostsAreNot DirectorIndirectCosts.TheseCostsShouldInclude theCostsofRunningtheOffice,Accounting,Human Resources,InformationTechnologyandMarketing theBusiness.

Allocating IndirectJobCosts
CostPools AllocationMethods

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IndirectJobCost Pool Jobsite Overhead

Normal jobsite overhead, also referred to as general conditions items, includes costs such as:
Projectmanagers Superintendents Secretarialandclerical workers Timekeepers Officetrailers Officeequipment Officesupplies Temporaryelectricity Temporarywater Temporarysewer Telephonecosts Sanitaryfacilities Trucksandautomobiles

CostofEquipment Pool
Depreciation Interest Repairs&Maintenance Transportation Licenses Fuel,Oil,&Supplies Insurance

HowDoYouAllocateEquipmentCosts toJobs?
Hourly?Daily?Weekly? CustomerBillingRate? InternalCostrate? ThirdpartyRateBook? IdleRate? OperatingRate?

HomeOfficeOverhead(SGA)
Normal home office overhead includes costs such as:
Advertising Depreciation(officeequipment &furniture) Donations Duesandsubscriptions Insurance(officeitemsand health/life) Interestandbankcharges Officesupplies Professionalfees Rent Salaries office Salaries officer Laborburden(office) Taxes business Telephone Travelandentertainment Utilities Yardexpense Miscellaneous Education Computer Baddebts

Whyisknowingall yourcoststhemost importantaspectofconstructionaccounting?

Ithelpsyou:
inthebiddingprocess todetermineproblemjobsandpeople topricechangeorders intheclaimsprocess toreconcilejobcostreportstothefinancialstatements tomakebetterbusinessdecisions

UsersofJobCostReports
ProjectManagement(primary) TopManagement(important) Estimator(ifproactive) ManagementAccountant(analysis) ExternalFinancialExecs(rare) Customers costplusauditing

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Attheendoftodayssession, youwillbeableto:
Calculateearnedrevenue.
Understandpercentageofcompletionrevenue

recognitionprocess

Grasptheimportanceofmonitoringjobcosts
Identifywhataconstructioncompanyexpects

fromitsfinancialmanager.

WIP/PercentageofCompletion Components
PercentageofCompletion CosttoCostMethod
TotalContractValue CostsIncurredtoDate EstimatedCosts@Completion

Whats4thcomponent?
Billings

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ContractValueIncludes
BasicContractValue ContractOptionsandAdditions+/ ChangeOrders+/ Claims+/ Incentive/PenaltyProvisions+/

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ImportanceofPercentageof CompletionRevenueRecognition
Costincurredtodate =Percentcomplete Totalestimatedcosts $1,000,000 =50% $2,000,000 PercentcompletexTotalcontractAmount=EarnedRevenue 50%x$2,200,000=$1,100,000 EarnedRevenue Billedtodate=Under(Over)billed $1,100,000 $1,000,000=$100,000underbilled (Costandestimatedearningsinexcessofbillings)

EstimatingCoststoComplete
Howimportantisthisstep? KeytestofProjectManagersforesight KeyattributeofreliableJobCostManagement System Anart,notascience

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EstimatedCoststoComplete
BasisofWIP#isajobcostsystem Requiresregular,periodiccomparisonsto budgeted/estimatedcosts Computeddifferently@costcodelevel(yes?) Reflectallcostsassociatedwithperformance ofcontract?

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OverviewofClaims
Usuallyinvolvecontractscopeand/ortiming issues Fivebroadcategories: 1. Delay 2. Disruption 3. ChangedConditions 4. ChangesinScope 5. Termination

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WhatisEarnedRevenue?
Thatportionofthetotalcontractamountthata companyisabletorecordduringaparticular accountingperiod.

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TheWIPSchedule

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Costs&Est.EarningsinExcessof Billings(analysis)
Reflectsdrainoncashflow Overrecognizedearnings Suggestspotentialpoorbillingdisciplines Increasesfinancialrisk

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Exercise&Discussion CostsinExcess(CIE) Asset

ComputeCIE Examplesofwhatcreates acostsinexcessposition. Whatsgreatestdangerofa CIEposition?

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CostinExcess
Scenario Period 1 ABC/CFMA Basic Construction Co., Inc., began work on the office building just awarded.
Contract Value Estimated Costs Estimated Gross Profit Gross Profit % Cost to Date Estimated costs to complete $20,000,000 $18,000,000 $2,000,000 10% $4,500,000 $13,500,000 $18,000,000 $4,500,000

Billings to Date

Calculate the following from the above data: Revenue Earned Billings to date Costs in Excess $5,000,000 $4,500,000 = $500,000

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Exercise&Discussion BillingsinExcess(BIE) Liability

ComputeBIE Discussexamplesofwhatcreatesabillings inexcessposition. WhatsbiggestdangerofaBIEposition? Suggestpossiblebadbillingdisciplines

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Billings in Excess
Scenario - Period 2
ABC/CFMA Basic Construction Co., Inc. began work on the job. The lump sum contract allowed for advances on estimated subcontract draw requests to begin critical, initial phases.
Contract Value Estimated Costs Estimated Gross Profit Gross Profit % Cost to Date Estimated costs to complete $20,000,000 $18,000,000 $2,000,000 10% $1,800,000 $16,200,000 $18,000,000 $2,850,000

Billings to Date

Calculate the following from the above data: Revenue Earned Billings incurred to date Billings in Excess $2,000,000 $2,850,000 = $850,000

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BillingsinExcessofCosts&Est. Earnings(analysis)
Keysourceoffinancing Managementsandbagging! Suggestsmartbillingdisciplines Unrecognizedvendorliabilitysubs Decreasesrisk??(onjoblevel)

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Componentsof FinancialStatements
IndependentAuditorsReport FinancialStatements NotestoFinancialStatements SupplementaryInformation

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BasicFinancialStatements
BalanceSheet Assets,Liabilities&EquityAccounts StatementofIncome RevenueandExpenseAccounts StatementofRetainedEarnings StatementofCashFlows WorkinProcessSchedule SupplementalSchedules

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NotestoFinancialStatements
Additionalinformationimportantfor fulldisclosure or Toemphasizesomeimportantissuesfromthe contractorsperspective

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SupplementaryInformation
NotrequiredbyGenerallyAccepted AccountingPrincipals(GAAP) Meetsneedsofvarioususers Contentandformvarybycompany ShouldincludeWIPSchedule

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RETENTION
Rangefrom5%to10% Generallydueandcollectiblebycontractor atcompletionofcontract Retentionheldcanbereducedatcertain milestones

PracticalConcepts
Reviewlaborperformancedaily actualproductionVs.budget&jobtodate Profit isnotadirtyword CollectingyourreceivablesisaRight nota privilege Computerizeasmanyaspectsofyour businessasyoucan

ABCConstructionCompany EarningsfromContractsYearEnded December31,2011

CostofGrossProfit RevenuesRevenueProfit(Loss) Earned Earned (loss) Percent Contractscompleted duringtheyear1,000,000800,000200,000 20% Contractsinprogress atyearend1,500,0001,200,0003,000,00 20% Unallocatedindirect costs 250,000 2,500,000 2,250,000 (250,000) 250,000 (10) 10%

WhatisaBalanceSheet?
Balancesheetisasnapshotatacertaindate. Whatdoesthebusinessown? Whatdoesthebusinessowe? Whatisthebusinessworth? Itisameasureofliquidityandleverage. Typicallypresentedinliquidityorder. Liquidityreferstohowquicklyassetscanbeconvertedto cash. Liquiditycanalsobeviewedashowcapableabusinessis ofcoveringitsobligations

Balancesheetpresentation
Typicallypresentedinliquidityorder. Liquidityreferstohowquicklyassetscanbe convertedtocash. Liquiditycanalsobeviewedashowcapablea businessisofcoveringitsobligations

Assets
Currentassetsrefertoassetsthatareconverted tocashwithinayear. UnderandOverbillingsaregenerallycurrent assets/liabilities. Fixedassetsrefertoitemsthatarenotforresale andhavealifeofgreaterthanoneyear.
Equipment,furnitureandvehiclesareallexamplesof fixedassets.

Liabilities
Currentliabilitiesaregenerallyobligationsthatwillbe paidorarepayableoverthenext12months. Longtermliabilitiesareobligationsthatarenotdue untilgreaterthan12monthsfromthebalancesheet date.

Networth

Networthisthedifferencebetweenwhatisowned (assets)andwhatisowed(liabilities). Reflectedintheequitysectionofthebalancesheet. Includesoriginalinvestment(stock,paidincapital) andretainedearningsofthebusiness.

HowtoanalyzetheBalanceSheet
Becomefamiliarwiththemajorcomponentsofthe balancesheet. Howmuchisinvestedinfixedassets? Isinventoryalargepartofthebusiness? Howmuchdebtdoesthebusinesshave?

ABC/CFMA,Inc. BalanceSheet December31,2011

Assets
CurrentAssets Cash $300,000 ContractReceivables 3,400,000 CostsandEstimatedEarnings inExcessofBillings 200,000 Inventory 300,000 PrepaidExpensesandotherCurrentAssets200,000 TotalCurrentAssets $4,400,000 PropertyandEquipment net OtherAssets CashSurrenderValue OfficersLifeInsurance 150,000 AccountsReceivable Officer 100,000 TotalOtherAssets TotalAssets 250,000 $5,350,000 700,000

LiabilitiesandStockholdersEquity
CurrentLiabilities NotesPayable $200,000 CurrentPortionofLong TermDebt 100,000 AccountsPayable 2,800,000 BillinginExcessofCosts andEstimatedEarnings 250,000 AccruedExpensesandother CurrentLiabilities 150,000 IncomeTaxesPayable Current 400,000 TotalCurrentLiabilities $3,900,000 LongTermDebt LessCurrentPortion 450,000 TotalDebt 4,350,000 StockholdersEquity 1,000,000 TotalLiabilitiesandStockholdersEquity $5,350,000

ABC/CFMA,Inc. BalanceSheet December31,2011

ABC/CFMA,Inc.
StatementofOperationsandRetainedEarnings YearEndedDecember31,2011
EarnedRevenue CostofEarnedRevenue GrossProfit G&AExpenses NetIncomeBeforeTaxes IncomeTaxes NetIncome RetainedEarnings Beginning RetainedEarnings Ending $10,000,000 8,000,000 2,000,000 1,000,000 1,000,000 400,000 600,000 400,000 $1,000,000

Liquidityanalysis
Providesinformationaboutthecash positionofabusinessanditsabilitytocover currentobligations. Currentratio(currentassetslesscurrent liabilities).Thisisthemostbasictestof liquidity.Willthecompanyhavetheability tocovertheircurrentobligations?

IncomeStatement
Incomestatementisawidelyusedand misunderstoodstatement. Whilethebalancesheetwasasnapshotpicture,the incomestatementisadiary.Itcapturesallthe transactionsthathappenedinacertaintimeperiod.

InConclusion
OnbehalfofABC&CFMA...
ThankYouforYour Participation!

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