A project budget provides contractors with information not only on potential costs, but it also predicts the total income and profit expected on the project. Contractors who don’t track project budgets could be leaving money on the table.
Budgets can be used to predict cash flow, recognize potential problems, identify scope changes, recognize income, and provide data for more accurate estimates in the future. All of these benefits lead to increased income and profits for contractors.
1. Predict income and cash flow
Contractors can use their project budget and schedule to help them predict future income and cash flow over the duration of the project.By overlaying the schedule on the budget and anticipating how much of the work will be complete at each billing cycle, contractors can predict their income for each month.
Income is based on the percentage of costs complete as per the project schedule. This percentage is multiplied by the total contract to get the value that can be billed in each month. The difference between the costs and income is the net cash flow and profit for the project. The company can use this money to expand operations or cover administrative expenses.
For example, a concrete subcontractor is about to start a three-month project that is worth $100,000. Total costs for the project are expected to be $75,000. If production remains steady over the course of the project, the contractor can expect to bill $33,333 each month, and have costs of $25,000 each month. Based on these numbers, the contractor knows to expect$8,333 in profit each month. They can use this information to inform their business decisions over the next three months.
2. Spot potential problems early
With a project budget in place, contractors can compare the percentage of costs incurred to the progress on the job and spot budgetoverages before the end of the project. The more detailed the breakdown of budget line items, the more information a contractor has to help them determine if the project is on budget.
If a budget overage is found while the project is in progress, the contractor can adjust to offset potential losses. An overage could indicate additional work done, necessitating a budget increase and adjusting projected income.
In our concrete example, say the contractor noticed that in the first month they spent $30,000 in costs, instead of the budgeted $25,000. The project manager communicates with the field and learns that they performed extra work to repair a damaged slab. The PM will adjust the budget to reflect this change and look for ways to save money in the future to offset the loss. Since he found the overage early, there are still two months to make up the difference. Without a budget, he may have to wait until the end of the project to discover the cost overrun.
3. Identifying scope changes
If the contractor identifies a budget overage due to owner-requested added work (a change order), the project manager can adjust the budget to include the extra costs and potential income from this work. This change is significant as it impacts the percentage of completion, which determines the amount of income recognized for the project.
In the scenario mentioned, if the damage was beyond the contractor’s control or at the owner’s request, certain consequences may follow. In this case it would be a change order to the owner and an increase in the overall budget. The slab pour costs $5,000 and it’s listed to the owner for $7,000. The new contract total would be $107,000 and budgeted costs are now $80,000. Due to this change,the overall profit on the project has increased from $25,000 to $27,000.
4. Income recognition
Most contractors use work in progress reporting for their income recognition. This means the amount of income they can claim is based on comparing the budget for each active project to the actual costs to date to determine the percent complete.The contractor can only recognize income based on the percentage of completion. For example, if 50% of the costs are for a project, then the contractor could only recognize 50% of the overall income.
If a contractor has billed more than the amount of income they can recognize, then their income is reduced by the overage. This situation is an example of overbilling. Billing less than the allowable income amount, also known as underbilling, increases the contractor’s income by that difference. Adjustments on the income statement directly impact a contractor’s claimed income and profit for any time period.
In the first month of our concrete example, costs to dateare $30,000 and the adjusted budget is $80,000. The project is 37% complete according to the costs. The contractor can recognize $39,590 in income($107,000 multiplied by 37%). If the contractor billed the owner $45,000 for the work that was completed, he is overbilled by $5,410. The contractor’s income statement will show a reduction in income due to overbilling of $5,410.
5. Improved estimating accuracy
Reviewing project budgets and comparing them to actual costs improves estimating accuracy for contractors. Analyzing several projects of similar scope allows contractors to refine their estimating, which improves their success rate and increases income.
With better estimates there is a reduced chance of costoverages on projects. Contractors gain insights into actual costs, allowing better budget planning and decision-making. Reduced cost overruns lead to increased company profits.
If a design issue causes a slab report, the concrete contractor can adjust future estimates for added costs. In a future project they will recognize the added income without the delay and added costs.
Automated budget reports with MX Build
Without a project budget, contractors are flying blind. Before starting work, contractors must determine project costs to spot overages and report correct income. Budgets aid in predicting cash flow and income, improving decision-making
Using tools like MX Build help contractors keep costs inline and track project budgets closely. Costs automatically go to the correct budget line, ensuring that reporting is accurate.