Your Books Are Lying To You!

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WAYNE RIVERS: Hi everyone. This is Wayne Rivers at Performance Construction Advisors where We Build Better Contractors.

This week I want to talk about your books are lying to you. Oh, my. This comes from the CEO briefing by CJ Prince, referred to his articles many times before, and his article features Jennifer Barnes, the CEO of ... Oh, what is it? Optima Office. Okay, let's take a quick dive.

Jennifer Barnes estimates that only about 30% of companies have balance sheets that are genuinely clean. In the other 70%, the P&L is distorted, the balance sheet is fiction, and leadership has no idea. Oh, my. Dennis was a genius. He was a savant with numbers. And he always said construction accounting is fiction. And he could give you a million examples why that was true. And Jennifer Barnes apparently agrees. Let me continue.

As CEO of Fractional Accounting from Optima Office, she observed CEOs are flying blind. They tend to significantly overestimate the accuracy of their financial data and significantly underestimate the cost of that overconfidence. The P&L shows profit. The CPA hasn't flagged anything alarming and yet the numbers are wrong, sometimes badly, consequentially wrong in ways that don't announce themselves until a cash crunch, a deal process or an audit forces the issue.

Now what about this is important to you? If construction books are in fact a fiction, and Dennis certainly made that case eloquently, then it could be a problem for you as you think about expansion, as you think about opening a new office, as you think about undertaking your largest job ever, not having accurate numbers is a real challenge.

Now, what are her prescriptions? Number one, she says that you need to track your AR by cut, not just in a general sense, but by customer with aging and also trending. Dennis was big on trending. I remember when we first created a benchmark, one of the most important things he did was look at five year trends; volume, margins, et cetera, et cetera. And I remember ages ago dealing with a small contractor and his volume declined five years in a row. And you could see the line graph going like that and he didn't really see any problem with it. He's not around anymore, needless to say.

The second thing, she says that you should have reconciliation status across your balance sheet. What bank accounts have been reconciled when? What credit card statements have been reconciled when? What about payroll liabilities coming up? What's reconciled and what's still open? If you've got credit card statements that haven't been reconciled in six months, you really don't know what you're looking at in terms of potential liabilities.

Number three, the cash conversion cycle. If cash is tightening, you need to know why and what to do about it most importantly. She advises that you need a 13-week forward-looking, rolling forecast. One of the things we've observed about the status of accounting in construction firms is they're really good at looking back and saying, "You had a great year in 2025. Congratulations. You had a great month." But they're not so good at looking forward. So having rolling cash forecast for at least the next 13 weeks is a step in the right direction for sure. And to the degree you can expand it out to 26 weeks or six months, then that's a good practice too.

She says fourth, you need to know your gross margins by product, service, customer, and channel. I don't know that contractors have channels, but certainly by projects, services, and customers. And then you could further diversify; small projects versus big projects, et cetera, et cetera.

So all good ideas from Jennifer Barnes. But I went to a higher source, John Woodcock. John Woodcock grew up in the accounting industry, actually has a birthday on April 15th, ironically. His father was a CPA. John became a CPA, went into public accounting and then got into the construction game, eventually becoming the CFO of Balfour Beatty East. And of course after that, the CEO. But John knows numbers for sure. What did John have to say? This is good stuff.

Gross margin number one. Contractors should analyze by sector, division or type of work. They need an ability to understand the gross margins more granularly. Is that a word? Than some big total average. Small project division should have much higher margins than big jobs as they require more resources to support and thus require more overhead. Second thing from John's wisdom. Cash position by project. Too often contractors assume all is well because the whip shows the project is hitting its expected profit target, but they don't go to the next step and analyze whether it's producing or using cash and they don't know the whole story. And then the third thing, overhead by division. In a multi-office contractor, the financial team needs to know what overhead expenses are truly associated with the local offices and then have a rationale and a methodology for allocating central overhead based on use of services.

So he liked the article but he expanded on it and I hope you find that valuable. Let me know what you think, [email protected].

This is Wayne Rivers at PCA where We Build Better Contractors.

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