As you recall, we wanted to buy an excavator for our business in our new role of Controller. To do this, we learned about WIP schedules and the percentage of completion method of accounting to apply for a loan. Well, we got some good news. That loan was approved! But, the financing company is going to ask us to make a 20,000 dollar down payment to secure that loan.

So, today, we are going to learn about cash flow. Let’s start out by looking at our income statement. It shows here that we’ve made about $6 Million so far this year, so, clearly, that’s enough to cover the $20,000 dollar down payment.  But that's not true. Just because we made $6 million doesn't mean that's what we have in our bank account. As a matter of fact, if we look at our balance sheet, we’ll see that we only have $17,000 of cash available right now. That's not enough to cover payroll, let alone on putting $20,000 down on a new excavator. How is that possible? 

Well, to find the answer, we need to go back to that discussion about the percentage of completion method of accounting. That method is one form of accrual accounting. However, the other method of accounting that we’re going to be talking about today is the cash method. The main difference between these two types of accounting is when they recognize revenue. The cash method of accounting recognizes revenue when a check is received from a customer, or when the company gets the actual cash. On the other hand, the accrual method of accounting recognizes revenue as soon as a bill is sent to a customer. So, if a customer doesn’t send in a check for a month, we would be counting revenue that we don’t actually have in the bank.  Do you see the difference? 

So far, we’ve been thinking about things along the lines of a cash method of accounting. We can see that we made $6 million, so we assumed that's what we have in the bank. But financial statements are run mostly using the accrual method of accounting. So what happens if we go back to that balance sheet? With this, we can see 2 million in accounts receivable and 2.5 million in retainage receivable. So, of that $6 million we’ve made, almost 4.6 million of it is still tied up in receivables.

That means we have fulfilled our contracts with our customers, but they have not yet paid us. The same is true on the other side of the balance sheet, with liabilities. We still owe people money. That's accounts payable. So when you look at a financial statement, and you see accounts receivable or accounts payable that is a sure sign that this contractor is using the accrual method of accounting in one form or another. 

Let's take a look at some supporting financial statements that go with receivables and payables. They are called the aging of accounts receivable, and the aging of accounts payable. This looks like a pretty busy report. But let's break this down. This is a report of all the money that is due to us on job number 1910 for the distribution center. We have a list of all the invoices that have been sent, the total of those invoices, and how much is still due to us. 

If we look at this, we can see that about $477,000 of invoices are over 90 days past due That is a cash flow issue. That's a lot of money to be fronting to customers and not getting paid. There's also about $145,000 that still hasn’t been paid, but isn’t quite as old. This tells us that cash is not coming in because customers are not paying very quickly. We need to speed up that process so that we can convert these receivables to cash in the bank, because if there’s one thing to remember in the construction industry, it is that cash is king.

Now, one of the things that we talk about when we talk about cash is cash projections. So, in addition to running financial statements, balance sheets, income statements and aging reports, we also need to do some cash projection. Projection will tell us what the expected balance in our bank account is going to be next week, next month, or even two months from now. 

In the industry, it is very hard to handle cash projections, because there are so many what if scenarios to take into consideration. Sure, we can assume that people are going to pay on time. But what if they take 90 days to pay? We can assume how much payroll is going to be every week. But again, that could differ based on different types of circumstances. There has to be some human interaction here. So a lot of times you will see contractors do a cash projection in an Excel spreadsheet like this one. 

But here’s an example of a report that was written in Vista. Now, it's not going to be 100% accurate - cash flow reports rarely are - but if you plug in some parameters, Vista is a great software that allows you to come in, run a dashboard, and see your estimated cash projections.

The most important thing to take away from today’s video is how critical it is to understand the cash projection. We need to know when we can plan to have the down payment for the excavator! 

Cash flow, along with other accounting workflows, can be difficult to manage in a way that maximizes your organization's efficiencies.

Trimble Construction One is a connected suite which connects your office to the field to streamline these workflows with the industries’ leading solutions to give you the right data for your projects. Check out what Trimble Construction One can do for you.