In last week’s message I closed my eyes and dropped a bomb. Did you hear it? If not, I suggest you go back and reread last week’s message. For me to admit to my readers that construction financial accounting is, to a large degree inaccurate, is I assure you, quite a bomb. Contractors have been calling and admonishing me for 25 years of constantly criticizing them for not taking their financial accounting and accountants seriously. They would say: “We always knew the accountant’s numbers were only estimates,” they said. “What did you want us to do with estimated financial statements a month after the train had left the station? They were accurate enough for the bankers and sureties, but estimated financials were of little use to us as management tools. We knew it because we provided the estimates in the first place.”
Construction Business Management
The fact that most contractors rarely use financial statements, budgets, or long-term planning to manage their businesses has troubled me for years. In our American economy, the construction company failure rate is second only to restaurants. Much of this high failure rate is due to poor business management, insufficient capital, and the confounded complexity of the construction business transaction itself. Most contractors are great builders but not as great businesspersons. They have limited or no business training, and construction schools to this day do not have enough room in their curriculum to teach enough accounting, economics, or business management courses. As a result, contractors have never understood the role of a professional CFO and don’t properly utilize a CFO’s financial management skills even though they employ one.
Not Just a Bookkeeper
- A competent construction CFO is much more than a CPA. A competent Chief Financial Officer is a financial analyst trained in the use of statistics to identify financial trends and isolate and evaluate risk. In his/her hands, financial statements are management tools that can be used to identify potential profit, loss, trends, and guide a contractor away from losses and toward profits.
- CFOs are financial “engineers” who can collect a contractor’s historic financial data (a minimum of 3 years of financial statements but optimally 5 years) and organize it logically and accurately to understand financial results and trends within a reasonable margin of error.
- This multi-year exercise uncovers and evaluates risk factors active in the company’s operations and helps identify their impact on profit and loss. If, for example, historic risk factors are active in current operations, the CFO can identify the potential negative impact on current profits.
- Once a competent CFO has studied accurate profit and loss data in the company’s historic financial performance, he/she can apply the trends, analyze current management decisions, measure the impact of ongoing risk, and accurately predict whether they will lead to profit or loss. This is critical real-time information in an active construction organization.
- A competent construction CFO actively manages working capital throughout the life of each project to ensure that sufficient capital is available to complete all projects.
- Construction CFOs also manage the company’s capital relationships. They assist in negotiating working capital lines of credit at the company’s bank and forge binding relationships with the bonding company.
- The construction CFO is responsible for the management of the company’s net worth. The CFO monitors the flow of operating profits into and out of capital accounts to ensure that the company always has working capital available to finance future growth. Distribution of earnings to the company’s ownership and capital investment decisions must be part of the CFO’s responsibility.
- Finally, the CFO organizes the preparation of company independent certified financial statements. These statements are not just reporting documents but are the backbone of the company’s relationships with its two most important capital sources, the bank and the surety.
No Respect
My biggest surprise when I am doing workouts for sureties is that the contractors are SURPRISED when they run out of money. Most of those contractors did not listen to their professional CFO and therefore lacked access to sophisticated financial management tools that could have guided them through the financial shoals of the construction business that we have been describing for the past eight weeks. All of the failed contractors ignored the CFO’s input.
I once asked the CFO of a construction company whose projects I had just been brought in to complete, why he didn’t know that the contractor was about to run out of working capital. He replied that he “did know.”
I asked him why he didn’t tell the contractor. He replied that, “The contractor fired the previous CFO for telling him that the firm was going to run out of capital. And the contractor would fire me as well if I brought him the same bad news.”
Next Week
Next week we’ll ask and answer a most elementary business question; Is construction a good investment?
For more information on Chief Financial Officers , read more at: CFO
For a broader view of construction accounting, read more at: ACCOUNTING
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Please circulate this widely. It will benefit your constituents. This research is continuous and includes new information weekly as it becomes available. Thank you.
