If you’re running a construction company, you know that it’s a complex and demanding business. But it’s also incredibly rewarding. To stay competitive and achieve long-term success, it’s essential to understand your company’s financial performance and overall financial health. This starts with a thorough understanding of construction company financial statements, including a detailed analysis of your operating costs.
Construction company financial statements are the key to unlocking valuable insights into your business’s performance. They provide a clear picture of your company’s financial standing and help you make better, more informed decisions to achieve long-term success, which is crucial for communicating with stakeholders.
Table Of Contents:
- Essential Construction Company Financial Statements
- Conclusion
- FAQs about construction company financial statements
Essential Construction Company Financial Statements
In the building world, there are four essential construction company financial statements every contractor needs to be familiar with:
Balance Sheet
Income Statement
Cash Flow Statement
Work-in-Progress (WIP) Report
1. The Balance Sheet: A Snapshot of Your Company’s Financial Health
A balance sheet captures your company’s financial position at a specific time. It’s based on a fundamental accounting equation: Assets = Liabilities + Equity. This equation means a balance sheet outlines what your company owns (assets), what it owes (liabilities), and the owners’ stake (equity).
Key Components of a Balance Sheet
The balance sheet has three main sections:
Assets: Resources with economic value owned by the company. Examples include cash on hand, accounts receivable, construction equipment, company vehicles, office space, and other intangible assets like trademarks, copyrights, patents, and goodwill.
Liabilities: Financial obligations a company owes to external parties. Common liabilities include accounts payable, salaries owed to employees, outstanding debts, and deferred revenue.
Equity: The remaining value after subtracting liabilities from assets, reflecting the owner’s stake in the company. It includes share capital, retained earnings, and any additional investments from the owners. Retained earnings represent accumulated profits reinvested back into the business.
A strong balance sheet, showing healthy assets, manageable liabilities, and solid equity, makes you a more attractive borrower to banks. This is important when seeking a loan for a new piece of equipment. The same applies when obtaining bonds for larger projects as your balance sheet can impact surety bond providers’ confidence in your business.
2. Income Statement: Tracking Your Profitability Over Time
Also known as the profit and loss statement, this report examines your construction company’s revenues, total gross revenue, and expenses during a specific accounting period, often a quarter or a full year. It helps you see if you’re making a profit by tracking money coming in (revenue) and money going out (expenses). The bottom line of your income statement shows your company’s net income (profit) or net loss for that specific time frame.
Understanding Your Income Statement
When reviewing your construction company’s income statement, here’s what to look out for:
Revenue: This top line captures the income your company generates during a specific time period, the sum of money flowing in from completed projects, and related activities.
Cost of Goods Sold (COGS): Direct costs incurred while generating revenue, like labor and material costs, subcontractor fees, and equipment rentals, all contribute to this section.
Gross Profit: Subtract your COGS from total revenue to find your gross profit, a vital indicator of your core business operations’ profitability.
Operating Expenses: This covers expenses beyond those directly tied to production, including sales and marketing expenses, administrative costs, rent, utilities, insurance premiums, office staff salaries, legal fees, and accounting fees.
Operating Income: This crucial line, also referred to as Earnings Before Interest and Taxes (EBIT), shows your company’s profit from its primary operations – a result of subtracting operating expenses from gross profit.
Interest and Taxes: These expenses – the cost of borrowed funds and your tax obligation – are deducted from operating income to determine your company’s net income or net loss.
Publicly traded construction companies must reveal their income statements quarterly to provide transparency to stakeholders and to showcase their financial performance. While this isn’t legally required for private companies, lenders and surety companies examine your income statement to assess your credit risk. A strong income statement, revealing consistent profitability, makes securing loans and surety bonds easier. For internal financial management, income statements are invaluable. Analyze trends in your income statements to understand your cost structures, optimize pricing adjustments, or revise your budgets.
3. Cash Flow Statement: Navigating the Ebbs and Flows of Your Cash
Your company’s income statement may reveal profitability, but are you collecting payments promptly to support operational needs? A cash flow statement answers this. It offers an unfiltered view of your construction company’s liquidity by tracking the money entering and leaving your accounts within a given period. This crucial statement provides insight into your company’s financial activity – the peaks and valleys of incoming payments and outgoing expenditures.
A solid cash flow management strategy considers the delay between invoicing and collecting payments on construction projects. Understanding this lag is necessary to cover operating costs such as wages, materials, equipment maintenance, and administrative expenses, even if payments are slow.
The Three Main Categories of Cash Flow
Cash Flow From Operating Activities: This includes cash from revenue-generating activities, like completed projects and payment collection. It also accounts for cash outflows for operations, such as wages, payments to suppliers, and routine expenses.
Cash Flow From Investing Activities: This category captures cash inflows and outflows related to buying or selling long-term assets, primarily equipment, property, or investments.
Cash Flow From Financing Activities: Transactions with shareholders, bondholders, lenders, and investors fall under this category, encompassing cash flowing in from loans, issuing stock, and paying dividends.
To anticipate future cash needs, consider adopting one or more cash flow strategies. This allows you to make accurate and reliable predictions about your future cash balances.
4. Work-In-Progress (WIP) Report: Project-Level Profitability and Billing Insight
Unlike balance sheets, income statements, and cash flow statements used in all business sectors, WIP reports are unique to construction companies. While the other three statements provide details about your overall business, they don’t examine project-specific profitability.
A Work-In-Progress report tracks the costs of ongoing projects, assesses revenue for work done, and provides an informed projection of the estimated costs to complete those projects.
How WIP Reports Empower Construction Companies
Imagine using a spreadsheet to track expenses for each project, logging labor costs, material quantities, subcontractor invoices, equipment rental fees, operating costs, and other project-specific costs as they occur. This information can be matched with billing to ensure the financial activities are accurate for a given project. Comparing those accumulated costs to the original budget estimates during periodic reviews will tell you if you’re exceeding spending limits or remaining within the budget.
Recognizing potential cost overruns early allows course correction. WIP reports allow for proactive address of project challenges, optimizing resources for better budget allocation, and identifying potential profit shortfalls. Banks and GCs rely on your WIP schedule to understand your financial prudence, especially regarding bid bonds. Just like with balance sheets and income statements, they use your WIP to make informed decisions about extending credit, awarding contracts, or providing financial guarantees.
Conclusion
Thoroughly understanding your construction company financial statements and assessing your financial performance is crucial for success. Balance sheets, income statements, cash flow statements, and Work-In-Progress reports are not just accounting paperwork. They are strategic tools that can help unlock your company’s growth potential. By routinely scrutinizing your financial data, comparing current periods against past performances, benchmarking against your competition, and understanding what these reports reveal, you can develop more robust business strategies for a stronger financial foundation.
FAQs about construction company financial statements
How to prepare financial statements of a construction company?
To prepare accurate financial statements, ensure meticulous record-keeping for all transactions. It’s essential to adhere to GAAP (Generally Accepted Accounting Principles) when compiling these statements. Many construction businesses use accounting software designed for their industry, which streamlines this process.
How to create a profit and loss statement for a construction company?
To create an accurate profit and loss statement for a construction company, accurately categorize all revenue sources from projects. You will then offset these revenue sources with the associated costs incurred to deliver those projects. This includes carefully logging labor costs subcontractor costs, material costs, subcontractor costs, and indirect operational expenses to calculate the overall profit or loss achieved.
What kind of accounting do construction companies use?
Due to its project-based nature, the most popular method is the Percentage-of-Completion Method (PCM). As projects advance, it gradually recognizes revenue and expenses proportional to the completion stage. Smaller projects or those with inherent uncertainty might be better suited for the Completed-Contract Method, where revenue and expenses are only booked when the project concludes.
What is a financial statement analysis of a construction company?
Analyzing financial statements for a construction company involves evaluating profitability trends, liquidity levels, operational efficiency, and financial health. This in-depth look for patterns over several accounting periods compares current performance against historical records or benchmarks the company’s performance against similar construction companies to pinpoint areas requiring attention. By taking this proactive stance, construction businesses identify early warning signs, explore untapped growth opportunities, or identify potential financial risks before they escalate.
