Cash is King: A Contractor’s Guide to Work-In-Progress and Cash Flow Management
By Wesley Veigle, CPA
For contractors, effective project analysis plays a vital role in cash flow management, cost control, and backlog projections. One critical aspect of project management is managing work-in-progress (WIP). Effectively handling WIP can make or break a construction project or company.
Here are five strategies that will significantly enhance WIP management and analysis:
1. Subdivide Project Classifications
Breaking out projects by sub-classifications can help contractors analyze profitability at a deeper level. Consider subclassifications such as residential vs commercial, or governmental vs private sector. From there, subclassify by geographical locations if your various geographical markets have distinct differences in competitions, suppliers, and margins.
A thorough analysis of jobs by various classifications will help contractors identify profitable areas, assist in resource allocation, and improve backlog projections.
2. Avoid Overbilling Reliance
While overbillings are usually ideal, educating project managers about the balance between overbilling and funding the remaining work is crucial. Overreliance on overbilling as profit can lead to financial troubles and bankrupt the project.
- Overbillings should primarily serve as cash flow to fund the remaining work, not as project profit.
- Avoid job-borrow – when estimated costs to complete exceed the remaining contract balance to be collected. Mistaking cash in the bank from overbillings as profit can lead to future cash flow problems, specifically on longer projects.
3. Ensure Accurate Rates in the Bidding Process and the Costs to Complete Analysis
In volatile or inflationary pricing environments, using outdated standard rates in the bidding and costs analysis process can significantly impact job profitability and create unpredictable bottom lines.
- Confirm that standard internal rates used for estimating costs align with current market conditions.
- Adjust for the industry’s rising wages and burden costs.
- Get material quotes from your suppliers in writing.
4. Emphasize Timely and Accurate Data Input
Untimely and inaccurate data entry can lead to significant WIP reporting issues, affecting decision-making, cash flow management, and job profitability. Management and decision makers should be able to review real-time data.
- Strive to automate data entry.
- If not automated, implement a review system to minimize errors.
- Stress the importance of timely data entry across all levels of the organization.
People, processes, and systems are keys areas that can define and predict the success of a contractor. If you need assistance with automation or reporting, Boyer & Ritter Operations and Technology Solutions (OTS) provides a combination of finance, IT, and business intelligence experiences. Learn more here.
5. Conduct Effective and Frequent Meetings for Project Updates
Regular project update meetings can help identify issues that affect WIP financial reporting. These meetings promote higher job margins, insight to cash flow management, and improved internal relationships.
- Schedule regular WIP meetings with accounting, finance, and operations representatives.
- Use standardized templates or dashboards.
- Have open dialog about key issues:
- Loss jobs – what went wrong? Apply gained knowledge to other projections.
- Large overbillings and underbillings – what is driving this? Is the data accurate?
- Receivable status – profitable jobs still need to have timely collections.
- Potential issues such as claims, subcontractor performance, or rework.
- Scheduling status – will delays in projects create any potential liabilities, either financially or in resource allocation?
Realistic WIP information facilitates stronger relationships with lenders, provides accurate projections and cash flow management, and becomes increasingly important as economic conditions fluctuate.
By consistently engaging in dialogue and focusing on critical aspects of WIP management, companies can unlock the full potential of their projects and pave the way for long-term success.