During a prior engagement, I spent several years as the CFO of a construction company during a rapid growth phase. One of the most valuable lessons from that opportunity was learning how to implement and utilize project accounting, a specific type of accounting used to track the expenses and revenue of a standalone project.
Project-based companies such as construction companies, engineering firms and government contractors utilize project accounting as their main source of information for putting together a project bid, creating a budget, reviewing costs and monitoring a completion schedule for each project. Project accounting is useful for many reasons:
- It informs management on the day-to-day status of the project.
- It generates information for successfully bidding and winning future projects
- And most importantly, it provides real-time information on the project’s budget, costs and revenue.
Below are some things to know about project accounting.
Internal Project Accounting Staff
As the CFO of a rapidly growing project-based company, it was my goal to build a team of professionals who may not have been trained in financial reporting and accounting, but who could learn to utilize a project accounting software system and become familiar with the relevant aspects of project accounting.
One of the important aspects of project accounting is allocating the appropriate level of resources inside your organization to take full advantage of the information that you will obtain.
An organization may use an external accounting firm for things like quarterly reviews, tax preparation or annual financial statement review. However, a project-based company may not have the resources or the need to engage a full-time accounting department on staff. In this case, project-based companies can hire and train their project managers, accounts payable managers, estimators or field superintendents to input and analyze the information required for project accounting.
A pre-mobilization budget is one of the most important aspects of a successful project. Once the project has a bid and the contract has been awarded, assuming that you are working within a standard fixed-price contract, a pre-mobilization budget creates the road map for the project and informs you as soon as you veer off the proverbial track.
A pre-mobilization budget allows you to create a starting point for the project based on individual cost codes. You can create estimates for labor rates, daily work hours, subcontractors, supplies or any additional expenses necessary to complete the project. Creating a solid pre-mobilization budget before beginning a project is the first step in taking advantage of the benefits of project accounting.
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Percent Complete Adjustments
Percent complete adjustments are the next tool available to your project accounting team once the project starts. Percent complete adjustments allow the project manager and the management team to assess the project from a mathematical viewpoint based on whether there are budget overruns or budget surpluses. These adjustments are made to each cost code in the budget using real-time information from A/P, schedule changes in the field, value engineering, or any other material change that will increase or decrease the overall profit margin of the project.
Real-time information is vitally important on a project, whether it is scheduled to last six weeks or six months. Percent complete adjustments require active involvement by the project manager and the A/P manager to ensure that all vendors are engaged, that all invoices are entered into the system in a timely manner, and that there is communication between the field where the work is being done and the office where the work is being tracked. Once these adjustments are made, a project manager can recognize where a project is meeting or falling below its budget and make mid-project assessments to ensure that the project complies with the expectations of the company.
Change Order Approvals
One of the most dynamic moments during any project is when the client approves a change order. A change order is the formal approval of a change to the scope of work that was not in the original contract. A positive change order may increase the profit of a project, especially if your contract has been negotiated in advance to allow for a percentage mark-up on specific change order work. A negative change order may decrease the profit due to an inability to complete the new work for a predetermined price or if formerly profitable work is taken out of your scope by the client.
In either case, it is very important to track change orders in your accounting system, invoice the client for the new work as part of your ongoing billing schedule, amend your budget for the expenses associated with the additional work, and increase or decrease your profit margin by the percentage of profit that will be recognized by the change order. Project accounting ensures that you accurately reflect how a change order affects the project and if any adjustments need to be made before you accept your next change order.
When a project comes to its inevitable conclusion, there is a lot of data to review when using project accounting. The obvious questions are:
- Did the project make money?
- Did it meet its net profit estimate?
Conversely, if a project lost money or missed its scheduled completion date, it is necessary to know what happened and how to ensure that it does not happen again on a subsequent project. A post-project assessment is a somewhat time-consuming, but ultimately valuable, review of each project. It’s based on what areas of the job went well, which areas fell behind, how well the budget followed the original bid, and what improvements could have been made when looking back on the completed project with hindsight.
Project Accounting: Every Aspect in Review
Project accounting allows you to look at every aspect of a project’s performance. It allows a project manager to review actual costs and to see if pre-mobilization cost estimates were in line. It allows an accounts payable manager to review how long it took to receive vendor and subcontractor invoices and to quantify how quickly invoices were posted to the accounting system. It allows field personnel to review labor hours and to acknowledge any changes to the schedule caused by onsite issues. Project accounting becomes a vital tool for not only diagnosing a completed project but an oracle for any process or operational changes when the company bids on future work of a similar size and scope.
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Categorized in: Financial Reporting & Accounting