For construction business owners, effective financial management is paramount to long-term success. Sound financial decisions rely on accurate and up-to-date information. This is where financial statements play a vital role. In this article, we will explore the significance of financial statements in construction accounting and highlight how they can be utilized to make informed business decisions.
1. Understanding Financial Statements:
Financial statements are essential reports that provide an overview of a company’s financial performance. The main types of financial statements are the balance sheet, income statement (or profit and loss statement), and cash flow statement. Each statement offers unique insights into the company’s financial health and performance. For commercial construction contractors, the Work-in-Process report also plays a vital role in the accuracy and performance of the company.
a. Balance Sheet: This statement provides a snapshot of a company’s financial position at a specific point in time. It showcases assets, liabilities, and shareholders’ equity, enabling business owners to assess the company’s net worth and solvency. The balance sheet is basically what you own, owe or are owed.
b. Income Statement: The income statement details a company’s revenue, expenses, and net income or loss over a specified period. It helps construction business owners understand their profitability, identify areas of improvement, and make informed decisions to enhance financial performance.
c. Cash Flow Statement: The cash flow statement tracks the cash inflows and outflows within a given period. It provides insights into the company’s liquidity, allowing owners to monitor cash flow, identify potential cash shortages, and plan for future projects.
2. Leveraging Financial Statements for Construction Decision-Making:
Financial statements are not mere documents for compliance; they are invaluable tools for decision-making. Here’s how construction business owners can utilize financial statements effectively:
a. Monitoring Project Profits: By analyzing the income statement, construction owners can assess the profitability of projects. Understanding the overall job profitability allows for the better understanding of overhead structure and revenue needed to meet financial goals. Additionally, when a commercial contractor is on the percent-complete basis and using a monthly Work-in-Process schedule, construction owners can also see the profitability per job.
b. Assessing Liquidity and Working Capital: Although the cash flow statement is one of the standard financial statements, for many construction business owners, a schedule of job-by-job cash flow can be more useful. Both reports enable owners to evaluate the availability of liquid funds. It provides insights into the company’s ability to meet overhead expense requirements and identifies potential cash flow issues that require attention.
c. Evaluating Financial Stability: The balance sheet allows owners to gauge the company’s long-term financial viability. By tracking trends in assets, liabilities, and equity, construction business owners ensure their company can meet financial obligations and maintain a stable financial position.
d. Informing Cost Control Measures: Financial statements shed light on various expenses, enabling owners to identify areas of overspending or inefficiencies. By analyzing expense categories, business owners can take proactive measures to minimize costs, optimize resources, and enhance profitability.
When accurate and timely financial statements are produced, reviewed and analyzed, profit improves because what gets measured gets managed. What gets managed, improves. Ever notice that where you put your energy/time, you see the reward? The same is true when you use financial statements as a tool to increase performance.
3. Forecasting and Future Planning:
Financial statements also play a vital role in long-term forecasting and strategic planning. For accurate forecasting you need accurate and timely financial statements. In fact, financial statements create the backbone in which to produce a financial forecast (like with our Atlas Growth Model). Although analyzing historical financial data and trends is useful, construction business owners tend to prefer knowing what action they can take today to change their future and not just look at the past. Financial forecasting can make informed predictions about future performance and allow for strategic decision making.
4. Expert Financial Partnerships:
Navigating financial statements can be complex, especially for construction business owners with limited financial expertise. Collaborating with an experienced financial partner, such as a CFO (shameless plug for the Atlas Virtual CFO services!!) or financial consultant, can bring invaluable support. They can help streamline financial systems, provide training to staff members, offer insights into financial statements, and recommend strategies to improve profitability.
5. Banking and Bonding Relationships:
Financial statements are required as part of any banking or bonding relationship. The better your financial reporting is, the more likely you are to have a strong relationship with your important partners. Because these financial statements are used to determine the size of your lending or the size of your bonding program, having accurate financial statements is critical.
Conclusion:
Financial statements are not just numbers on a page; they hold the key to unlocking informed financial decision-making in the construction industry. By understanding and leveraging financial statements, construction business owners can gain insights into their company’s financial health, uncover areas for improvement, and strengthen their financial management practices. Partnering with financial experts can further bolster financial systems and ensure sound financial decision-making that propels the company towards greater profitability and long-term success.