Construction Company Profits Can Be Impacted By These…..

As Indiana has been hit with a lot of rain in 2015, it’s critical that contractors stay on top of their bottom lines.  Many projects have been pushed back, but the work still needs to get done.  This could cause some compression in scheduling for the rest of the year, as well as some unbudgeted overtime pay and possibly cause less profit than originally anticipated.  You should fully understand what a hit to your profitability can do to your construction company. Here are some key items you simply can’t ignore if you want to stay profitable.

Managing overhead

Expenses that aren’t directly related to your projects, commonly referred to as “overhead” or “indirect costs,” are easy to ignore. Some examples of indirect costs include project management, purchasing, contract administration, safety oversight and salaries.

Other indirect costs are small tools, fuel and supply, and freight charges. Taxes, title transfers, permits, bonds and job insurance, and shop and marketing costs are all typically considered indirect costs, too.

Construction companies that fail to properly allocate indirect costs to their projects are missing out on opportunities to recover expenses and submit accurate bids. When looking for ways to reduce these costs, consider your history. An analysis of indirect costs and their relationship to your operating results, for instance, can help you determine which costs are fixed, which are variable and which are a little of both.

You likely can’t do much to change fixed costs beyond, perhaps, negotiating with your lenders, landlords, utility providers, etc. However, you may be able to reduce variable costs by cutting out (or down on) unnecessary expenses.

Once you’re armed with that knowledge, you can construct a budget for indirect costs to plan for the coming year. Then you can regularly compare your budgeted amounts for indirect costs with your actual spending. If you’re going over budget, look for ways to cut back.

Conquering receivables and payables

You do the work, you generate an invoice and you send it out. Bills come in and you pay them the best you can. The management of construction receivables and payables, however, is easily taken for granted.

One receivables strategy that plays well with many contractors is front loading contract billings. This involves shifting some profits into earlier phases rather than applying a flat rate to all phases as usual. Be careful not to be too aggressive, as overbilling can turn away your owner or general contractor, which can cause problems down the line. However, when done properly, this strategy can help you collect some of your profits before the retainer is paid on completion.

If you’ve always paid vendors within 30 days and are experiencing a cash flow shortage, consider extending your payment cycles. Just as you’re sometimes flexible with parties that owe you money, ask for a break from your creditors to help you handle the cash crunch and deal with cost overruns.

Minding the change orders

It’s critical that you address change orders properly. Doing so can help protect and even support your bottom line in tough times. But, first, you need to know your contract. It’s next to impossible to quickly identify a change unless you know how it differs from the original agreement.

Also, be sure you have a well-managed change order system. Ultimately receiving a written, signed and authorized change order that will get you paid requires careful recordkeeping. Maintain daily reports, project correspondence, meeting minutes, schedules, cost records, photos and other documentation to help indicate an operational change.

Last, be sure to provide written notice and an explanation of how your revised work will affect the schedule and delivery date, including a date on the document to prove you gave owners plenty of time to react to the associated costs. Lack of notice can be a strong defense for owners, so following these steps will help increase the likelihood you’ll get paid for the extra work.

The bottom line

Having a healthy bottom line is crucial for contractors in this day and age. So look at which of the ideas presented here you’re already implementing and which you should start. Then talk to your financial advisor about other ways to ensure that your profitability continues to grow.

If you would like additional information or to discuss the topics mentioned, please contact Tim Ayler, CPA at 317-260-4401 or tayler@greenwaltcpas.com