|
|
 |
 |
 |
 |
 |
 |
 |
 |
 |
Articles:Entering Fixed Assets as Journal Entries Estimating, Project Management Overview Paying Liabilities and Transfers Between Accounts Profits - Strategies to Improve |
Key Performance IndicatorsLiquidity Indicator
The construction industry has generally accepted KPIs that indicate the overall health of a firm. However, the definition and understanding of each of these KPIs varies widely since a typical construction company has a complex combination of requirements.
Here are the important indicators which many successful companies follow:
1. Liquidity indicator 2. Schedule variance indicator 3. Work-in-process (WIP) reporting 4. Margin variance indicator 5. Project cash flow indicator 6. Unapproved change-order indicator 7. Committed cost indicator 8. Backlog indicator 9. Scorecard indicator.
Today, I will describe the Liquidity Indicator. For more information on the other indicators, please contact me.
Cash is the single most important asset that keeps a construction business operational; all sins are forgivable except one: running out of cash. The complexity of contracting makes forecasting cash flow difficult at best. Late client payments, schedule delays, invoice processing, change order approval, vendor/subcontractor payments, labor costs, and numerous other factors affect the timing and ultimate receipt and disbursement of cash.
Understanding cash flow is critically important and is examined in detail when working with the WIP indicator. One key aspect of cash flow is cash demand or liquidity which is discussed here. A manager should have the ability to evaluate organizational liquidity (availability of cash) and then should be able to drill down and see which projects are providing liquidity and which are using liquidity. Once the amount of liquidity at the project level is known, an organization can work to improve it.
The next step toward liquidity improvement is to identify actions that will improve the cash generation process. A project that is losing money may still be generating positive cash flow. Conversely, a project that is making money may produce negative cash flow. For example, a positive cash flow can be achieved inappropriately by not paying subcontractors and vendors. Therefore, causes of both negative and positive cash flow should be investigated and analyzed.
Looking at cash flow from a contractor’s perspective reveals four key balance sheet accounts that are largely controlled by project managers. A contractor is funding his WIP with his own cash if accounts receivable (including retention), and underbillings (costs and earnings in excess of billings) exceed accounts payable (including retention) and overbillings (billings in excess of cost and earnings on contracts). The funding can be in the form of equity or borrowed money.
Conversely, the contractor is funding his WIP with the project client’s money if the current liability accounts exceed the current asset accounts. The difference in this equation will be one of three possibilities:
1. Zero, in which case the funding and asset accumulation are in balance. 2. A positive number, in which case cash is being applied to operations. That is, the general contractor is financing the WIP. 3. A negative number, in which case cash is being provided by operations. That is, the client combined with subcontractors and/or vendors are financing the WIP.
The current asset and liability accounts can be converted to the equivalency of a number of days’ revenue outstanding by dividing annualized revenue by the 365 days in a year producing an average daily revenue amount. The average daily revenue amount is also the amount of cash that can be generated from operations if improvements are made in the ratio, or relationship, of these key accounts of current assets to current liabilities.
Dividing the current asset accounts and current liability accounts by the average daily revenue produces the days outstanding for each account. Those numbers can then be totaled to determine the net impact. The net impact is the average number of days of liquidity applied to or provided by WIP by each account. The accounts receivable and accounts payable days outstanding can be compared to industry averages such as that compiled by the Construction Financial Management Association (CFMA) or Risk Management Associates (RMA) for contractors to determine positive and negative comparisons to similar size contractors.
The range of days outstanding of accounts receivable and accounts payable for a contractor within a certain volume range varies significantly within the industry. The goal for your firm should be to rank in the top 25 percent of firms in this comparison survey. These firms have best-of-class financial management practices.
As I said above, sometimes MB customers are not getting what they need. If you're not getting what you want or need, I can help by working with you to give you the full view of your business and how it compares to others in your part of the construction industry. Using the Key Performance Indicator model in combination with the large array of information which can be found in Master Builder reports, you can get an extremely clear view how your business is working and the exact areas in which it can be improved.
Please contact me for more information.
Andy King 805-771-8400 service@missiondevelopment.com
Consulting | Reports | Resources | About
Us | Links | Contact |
Disclaimer | Home
|
