Posted: May 8, 2017 | Project Management
The construction economy has greatly improved over the last couple of years and the forecast for overall construction growth in 2017-2018 is between 6-7%. Your contracting business should be booming, but you may have found that you’ve outgrown your bond capacity with your current surety bond program (most likely a credit-based fast-track type program).
If so, you’ll need a new program that allows you to handle more and potentially larger bonds – but you’ve been informed that it requires additional information from the underwriters with the surety companies. You have heard a WIP (Work in Progress) can help. So what does that mean?
A WIP (or Work in Progress) schedule is one of the most valuable tools to help you manage your growing business. A WIP is more than a list of jobs that you are working on – it’s also an essential tool for creating an indication of profitability and cash flow.
A WIP schedule compares billing with actual progress (how effectively the field is communicating job costs), from unstarted contracts through in-progress contracts to completed contracts, helping you understand where you stand with your business at any time. A WIP can also provide a snapshot of your position on any particular project and help you make sure that your costs, underbillings, and overbillings are reconciled.
When determining how much surety credit to give to a contractor, a WIP is a particularly important tool for a surety underwriter. A quality WIP schedule, in addition to the financial strength, credit history, and experience level of the contractor, gives the surety company the information needed to enable them to expand on an existing line of credit.
So, what are the surety underwriters looking at on the WIP schedule? For clarification purposes, a sample WIP schedule can be found at www.brunswickcompanies.com/WIP. The surety companies are looking at:
- Gross profit per job
- Profit fade
- Cost to complete
- Cash flow
Specifically, surety underwriters are looking for patterns in the reports that give them an indication of how well you manage your projects and business. They don’t want to see a deteriorating profit or profit fade, which occurs when the profit from the job is less than expected. This can be a result of increased costs, poor job execution, job delays, poor estimating, or aggressive bidding upfront.
For example, your inital job estimate shows a $200,000 profit. At 80% complete, the WIP still shows a $200,000 profit. When the job is completed and the WIP only shows a profit of $125,000 – much less than expected – the underwriter will want to know what went wrong.
The surety company will also be looking at over-billings and under-billings:
Over-billings – This occurs when bills are submitted in excess of the amount of the contract or the amount of revenue earned at any given time. For example, the job is 50% complete, but the contractor has already billed 70% of the project. This is also known as “Front End Loading.” If a job is overbilled, the surety company will want to see that you have cash on your statement and not used somewhere else. For example, are you overbilling on one job to compensate for decreasing profits on another?
Under-billings – The opposite of over-billings, this occurs when bills are submitted for less than the amount of revenue earned or the contractor has not billed for work already completed. For example, the job is 50% complete but the contractor has only billed 35% of the work. The surety company may want to understand why you have under-billings. For example, are you having problems on the job preventing you from being current on your billings?
For long-term construction contracts, the percentage of completion line item on the WIP schedule is extremely important. It is the most accurate way to measure revenue on contracts not yet completed, as it recognizes the revenue when the expense has actually occurred. The “Cost to Complete” line on the WIP is used by the surety companies as the backlog to determine how much of the bond program is in use and/or how much to expand the bond program, if applicable. Most surety companies require this information for bonding purposes.
A comprehensive WIP schedule can exhibit how you monitor and manage your company’s cash flow and minimize cash flow issues. You will receive the best possible rates with the surety underwriters when you have accurate and consistent WIP reporting. Numbers can and do often change during the course of a contract, so it’s important the accounting costs and bills are accurate.
If the WIP numbers are not added or entered correctly, it can be a liability for the company: if the WIP schedule is incorrect, the contractor could see a huge surplus of cash and mistake it for a profit. Mistakes on a WIP schedule costs contractors thousands of dollars each year. Some common errors on a WIP report are:
- Calculation errors
- Change orders and not revising estimated total cost
- Project losses not fully recognized
The ability to obtain contract bonds is essential for growing your business. A WIP schedule is a vital tool for accurate reporting, profitability tracking, and keeping business finances in check to boost your bond program. Incorporating a WIP schedule as part of your business process can provide you with tremendous advantages, leading to much greater success over the long run.