From industry to industry, companies everywhere struggle with determining a fair cost for their services—and the construction industry is no exception.
Construction contractors get most of their jobs by bidding on various projects within their wheelhouse. Like most professionals, learning the tricks of the trade takes time—and mistakes are sometimes unavoidable.
From determining which lines of business are profitable—and therefore worth taking on—to pricing materials, labor, project management and other overhead costs like utilities, it can be hard to avoid losing money on a project.
Then again … if you bid too high, you risk losing business! It may seem like a lose-lose situation, but don’t worry—it’s not. A trusted CFO partner can help you understand both the direct and indirect costs associated with a potential job as well as how to bid and buy on behalf of your construction company.
Understanding Your Costs
The construction industry brings with it some uniquely challenging aspects to managing costs. Construction work is project-based and cyclical. Most of the time, contractors have to wait long periods of time before receiving payment—meanwhile, project costs, overhead costs and payroll persist.
Direct costs are costs directly associated with the job. This can include materials, labor costs and subcontractor costs. There are also indirect costs associated with running your business. These costs may not as easily be applied to the job, so are generally pooled together and billed at an overhead rate. Overhead rates should be reviewed and updated regularly.
Understanding Business Profitability
Construction companies exist to build stuff … and make money. Of course, both are easier said than done. Turning a profit can be tough. You want to win the work, but that doesn’t mean you should always try to be the lowest bidder. A strong bid is based on data and factors in potential risks. It should be as accurate and realistic as possible. Every bid you submit should include a contingency line to absorb potential added costs. Bid what’s accurate and fair. And remember: Don’t sacrifice profit just to win more work.
Set Profitability Goals
Now it’s time to ask yourself: Where do you want your construction company to be in one, five or ten years? Are you looking to grow your business and expand into new markets? Are you looking to take on more work?
Setting goals for your company is an important part of its growth, and the same is true for your cash flow. Set profitability goals for your company so you know whether or not you’re on track throughout the year. These goals can help you determine what type of projects are right for you.
How Bidding Services & Equipment Leases Affect Business Profitability
In June 2020, the Financial Accounting Standards Board (FASB) issued ASU No. 2020-05 Revenue from Contracts with Customers (Topic 606) and Leases (Topic 842), which delayed the effective date of the lease standard by one year. This means the new lease standard will be effective for fiscal years beginning after December 15, 2021—but early adoption is still allowed.
The intent of the new lease standard is to put all operating leases on the balance sheet. What does this mean for you?
Well, let’s say your construction company has a four-year operating lease on your equipment. Right now, you are most likely expensing payments as they are made. Under the new lease standard, you’ll calculate the net present value of base rents to determine the lease liability and right-to-use asset on the balance sheet. The new lease liability portion should be broken out into current and long-term portions. This entry will change your debt-to-equity ratio, current ratio and quick ratio, and potentially others. And it doesn’t just apply to equipment. It applies to real estate and office leases, too.
If you’ve got questions about the new lease standard, you’re not the only one. It’s important to talk to your banker about how the new lease standard will affect your debt covenants. By outsourcing your accounting or CFO services to Froehling Anderson, we can help you prepare pro forma financial statements to show you how the new lease standard will affect your financial statements and debt covenants. We’re here to make it easier for you.
How an Outsourced CFO Service Can Benefit Your Construction Company
There are many benefits to outsourcing your small business accounting to a trusted CFO, but the main reason is to save money! As your costs, taxes, regulations and competition get steeper, remaining profitable is key.
We can help. From the daily drivers of your construction business—job cost allocation, cash flow, bank and bond relationships—to the long-term concerns of costs, compliance and succession, Froehling Anderson has experience helping construction companies like yours manage their bids and gain profitability. Developers, general contractors and subcontractors alike rely on us to help them determine the right path forward. Now, it’s your turn.
