Many construction companies utilized their own equipment in the execution of their contracts. They’ve made a determination that there is sufficient potential utilization that ownership is better than renting for a job for various economic and efficiency reasons. They use the market rental rate or an internally determined rental rate within their bids. Once the job commences, many contractors do not account within their job costing for this equipment. The effect is to overstate profit during the ongoing job review or at the end of the job, since costs within the bid are not considered on the job cost. Thus, the contractor can overrun labor hours and cost, overrun materials or subcontracted costs, and this is offset by the zero equipment cost posted.

The same situation occurs when a computed labor rate is used in the bid. More often than not, the labor rate exceeds the actual labor rate, and the effect is the same overstatement of profit. Buy out gain of materials or subcontractors post bid award, again has the same effect.

There should be posted to the job an internal rate of rental by day, week, or month as is applicable. This should be compared routinely to the expenses of repairs, parts, useful life depreciation, interest on the equipment loans, and possibly fuel and any other costs of the operation. This is a profit center, or the contractor would never have purchased the equipment in lieu of renting. It’s simply another means of profit in your business.

Buy out gains on materials, equipment, or subcontractors should be tracked and reviewed for the same reasons and the net buy out should be entered into your job costing system as the “estimate” if your system does accommodate an area for buy out gain.

Labor rate variances of bid rate to actual are often 10% or higher or more. Buy out gains can range from 1% to over 5%. Depending on how much of your own equipment makes of the bid, it can vary the results by 2% to 15% or more. When you add these up, it can create a false ongoing review of the job, then when you review your financial statements, you haven’t earned as much as you thought. Contractors lose confidence in the financials and assume it’s just errors or accountant’s tax moves, and the financial problems on the job are not identified specifically, not addressed, and they simply persist leaving tens of thousands to hundreds of thousands of dollars lost by simply not knowing what is occurring because it’s masked by these other profit centers (equipment, buy out, labor rate).

A simple analysis of your completed jobs compared to estimates, coupled with a financial statement presentation that mirrors the components of your cost of jobs estimated can be accomplished by a knowledgeable construction financial person. If they don’t understand this, change the internal or external accountant.

Over the years of working with companies as a consultant and running companies, it has amazed me as to how many accounting personnel within companies and, even worse, how many outside accounting professionals just don’t understand how that business is organized to “MAKE MONEY”. I’ve heard, “I just can’t get the information that I request”, or “I just look at the bottom line of my financials”. All too often financial personnel and professionals are not trained in the fundamental profit controls of the company for which they work, don’t ask questions to learn, and simply do what they know how to do, not what the business requires.

The purpose of an outside accountant is to not only prepare taxes or provide an acceptably formatted financial statement for your bank or bonding company, but to understand and challenge the financial controls of your business. If they don’t understand the nuances of your bidding process, if they’ve never questioned it and requested information to support what has been explained, it’s likely that your internal personnel are preparing financial statements in a format to support whatever your accountant asks. The accountant will often do what’s been done before, utilize a format that supports them in preparing your tax return, but not supporting management needs and profit control requirements.

A financial statement is simply a control or “sanity check” to determine if what you think has occurred during the last month, quarter, or year is accurate and consistent with the internal information (or gut sense) that you’ve assimilated and with which you’ve managed your company. The purpose of monthly financial statements is to allow more rapid response to issues that arise when the financials don’t match what you think occurred or by effective analysis of key trends and data, focus the company better on means of increasing profit. This can only be effective if the accountant asks questions, verifies responses so he or she truly understands the issues and business.

Question, when was the last time your accountant took the time to conduct an in depth review of your financial processes, procedures, and statement presentation? When was the last time that you had a meeting with your internal or external accountant and learned something new about your business besides tax planning? You are in the business of making money. Profit should be the primary topic of every conversation with your accounting or financial professional. If you don’t take away something that is implementable routinely from these meetings, then you are either perfect (never saw a perfect company) or missing profit and cash flow.

The simple purpose of your outside advisor is to increase profit, increase cash flow, maintain compliance needs, and to MAKE YOUR LIFE EASIER. Ask yourself the question of whether all those primary issues are addressed. If not, you’re missing profit and missing the right professional.

When that nasty letter arrives from the IRS or your state’s auditing division informing you that an audit is on the way, how do you respond? I’ll take care of it myself with my internal staff? I call my accountant and fax over the notice? Ignore it, and hope it’s forgotten?

Regardless of whether or not you are concerned with IRS deductions/income, sales/use tax, or employment issues, it’ll be the best use of your time and money to request your qualified accountant to conduct a thorough “pre-audit” of the years to be reviewed…and potentially the subsequent and previous years should you have a consistent potential exposure.

A thorough “pre-audit” will identify potential tax causing exposures, allow you and your accountant the time to prepare documentation to support your issue (if found), create a strategy for the audit to mitigate the potential issues during the governmental review. When the auditor sees that your information is out of control, disorganized, can’t answer questions, they just seem to laser in on their work. If they see documentation prepared, it’s organized, they have a place to work with your accountant present (at all times) – not the owner- either at the accountant’s office or your place of business (preferably the accountant’s office), there is a greater chance of success.

20 years ago, I represented a large residential development and construction company. In pre-audit we found a number of personal items such as his wife’s clothing and trips to Europe among many other potential issues. We had a potential problem. We made sure that the sample homes had closets filled with clothing, that the trips had some documented relationship to their home design and to the furnishings of the sample. We had a strategy of giving the auditor a tour of the models, then worked off site at the accountant’s office. In the end, the issues were still the issues, but the client received a “no change”, not because of lies or destroying documents, but by preparation, designed work flow, and by providing pre-prepared documentation.

When you “skim” cash in substantial amounts, run your new home through the cost of goods sold (or in one case a yacht), buy expensive jewelry for your spouse, take little salary or distributions and run all of your personal expenses through the company, you run the risk of fraud, enormous penalties, back and forward interest, or potentially litigation and/or jail time, and personal and business embarrassment or ruin. There are so very many ways to avoid taxes, defer income/taxes and to maximize deductions. In the end, the combined tax rates (state, local, federal) of the worst taxing parts of the country are still under 50%. Best advice - learn how to make more money so that the taxes almost become irrelevant.

Look for tips in this and future newsletters on HOW TO MAKE MORE MONEY on your current activities.