The lifeblood of a construction company is its work-in-progress (WIP) schedule. The WIP schedule contains all of a company’s current jobs in progress and details each respective contract along with the following information: contract price, the total costs incurred to date, estimated costs to complete each contract, billings to date, as well as revenue recognized on the contracts.
Other items, such as overbillings and underbillings, as explained later, are included as well. This report is vital to the short- and long-term success of any construction company. The WIP schedule outlines the hopeful future success that lies ahead. Without a properly maintained WIP schedule, and the knowledge of what is behind it, there is no way the management team or company owner of a construction firm will be able to correctly analyze profitability, cash flows or any other financial metric essential to the well-being of a company.
Ensuring that your job costs are recorded correctly and then transferred to your WIP schedule is the first step to preparing your WIP schedule. This practice seems simple, but is often overlooked. The responsible parties in your accounting and financial departments will need to verify that job costs are accurately allocated to the respective jobs in order to properly add to the WIP schedule.
This is the basis for calculating revenue on each contract, and is completed by comparing the total costs incurred to date to the total estimated costs of a contract and calculating the percentage complete of the contract. This percentage is then used to calculate the amount of revenue earned to date by multiplying such percentage by the total contract price. Making sure this is done correctly will allow your team to properly view the gross profit, as well as backlog, on all of your contracts.
The backlog is your remaining revenue to recognize on uncompleted contracts. After all, how could you possibly run a successful business without knowing the true revenue earned on each job as well as knowing how much revenue will be earned on projects in the future?
With a properly maintained WIP schedule, you will also be able to scrutinize your estimation and bid processes. By comparing your bid amounts to the expected gross profit at various points throughout a contract, you can see if there are any inefficiencies in your bidding, estimating and project management procedures. You could potentially stop a contract from falling too far over budget just by having information properly put together and taking the time to review it.
Another key metric included in your WIP schedule are underbillings and overbillings. Underbillings (or common costs and estimated earnings in excess of billings) represent amounts recognized as revenue on a contract but not yet billed.
Underbillings are recorded as an asset on your balance sheet. However, this could be a negative for your business. In essence, underbillings represent the fact that you have performed work on a contract, but have not billed for that work yet.
This could lead to some negative consequences, such as a lower profit margin being recognized than expected, costs not being allocated correctly in your books and records, or, worst case scenario, customers eventually not paying for work already performed.
The opposite is overbillings (or billings in excess of costs and estimated earnings), which represents amounts billed to your customer, but not yet recognized as revenue to date. This is a liability on your balance sheet, but might not be such a bad thing.
Overbillings are amounts that have been billed, but the work has not yet been completed. However, a large amount of overbillings will bring exposure because this will show that you have a substantial amount of costs to complete on a contract, while you have already billed and maybe collected on them.
In addition, overbillings could lead to your company’s profit margin being understated, under-accrual of costs on jobs, or inaccuracy of cash management between jobs. Without a WIP schedule, one would not have the information to correctly view under billings and overbillings on contracts.
Properly understanding your underbillings and overbillings, as well as your estimated costs to complete will help you in budgeting your future cash flow. This is increasingly important in the post-COVID-19 environment.
Your WIP schedule will become even more valuable now. Your operations are going to change in the short term, and no one can tell when, or if, the “old” normal will return. You are going to want to drill down on your estimated costs to complete to ensure that these numbers are accurate.
The future is unknown. Your jobs might take longer to complete, you might have less field workers on jobsites, and there will be increased safety measures and procedures put in place. There are also numerous other changes, which could affect your estimated costs and expected profit margins. You will need to ensure your company’s future estimated cash flows line up with your current WIP schedule so that there are no surprises to you or your business operations.
The WIP schedule should be treated as one of the prominent reports that the management and owner of a construction company should review and analyze in detail. An inadequate WIP schedule can lead your business to a decline that could be avoided with proper financial information. If an accurate WIP schedule is not already a staple of the business information you review on a periodic basis, it is ever so important that it becomes one now.