In this series, we have done a lot of research about construction accounting, and hopefully you are starting to feel more comfortable with the content we’ve covered so far. Now, we are going to focus on some topics that fall under the role of the controller in a construction business.

In focusing on this new role, we are going to learn some slightly more advanced accounting processes and terms. Today, we are going to focus on WIP Schedules. 

Let’s start with the following example to look at the role of a controller and the importance of WIP schedules. In our example, we are a controller for a construction company, and we have been asked to purchase an excavator for the company. However, the excavator costs 139,000 which is more than the current bank balance our company has. 

Now, to buy the excavator, we might go to the bank to ask for a loan. However, the bank is going to ask us for a reviewed financial statement with all of our WIP schedules attached. But what exactly is a WIP schedule and a reviewed financial statement? 

A reviewed financial statement is a document that is prepared by a CPA in which they confirm that they have reviewed the income statement and balance sheet of a company. Additionally, they have made inquiries of personnel and determined that the analytical procedures that they have applied to the financial data all fit within the parameters of GAAP.

GAAP stands for Generally Accepted Accounting Principles. These are a set of rules that encompass the details, complexities and legalities of business and corporate accounting. The Financial Accounting Standards Board or FASB uses GAAP as the foundation for its comprehensive set of approved accounting methods, and practices. 

Through the process of doing a reviewed financial statement, we learned about the percentage of completion method of accounting, which makes sure that companies are recognizing revenue in the period and method in which they should. This is where WIP schedules come into play. 

To understand how, we’re going back to the previous example of our construction company. Let's assume that our construction company is working on a project that has a $2 million contract value and about 1.75 million in estimated costs. This means we are going to bring home about $250,000 with a 12.5% margin. That's what you see here. 

Here's another line of assumptions. Let's say that so far our company has incurred about $180,000 worth of costs on that project. Let's also assume that so far, we’ve billed $285,000. There’s a lot of information here. 

Here's what I want you to see. If we looked at this on an income statement, we would see that we have revenue of 285,000 and we have a cost of goods sold of about 180,000. And look at that net profit. We’re making $105,000. Look at that percentage. We’re showing a 36% margin. How could that be, when the project actually had an estimated 12.5% margin? This is exactly why the percentage of completion method of accounting is really important for contractors to take into consideration. 

What we really need to do is calculate earned revenue. Contractors can bill whatever they want. That doesn't mean that's how much revenue they've actually earned, and should be reporting on an income statement.

How do we calculate earned revenue? We start by finding out what the percentage of completion is. We're going to take the cost to date of $185,000, and divide that by the estimated cost of the entire project. By doing that, we find we are 10.3% complete with this project. 

Now, we're going to take that 10.3% complete and multiply it by the contract price of $2 million. That gives us an earned revenue dollar amount of $205,714. Compared to our billings of $285,000, that's not equal. Billings to date do not equal earned revenue. There is a difference here of $79,285. This is what we call an over billing. We have billed in excess of what we’ve earned. 

There's also the potential to be under billed. What if we had only billed for $200,000? Well, in that case, we would have been under billed by about $5,714. It is important to remember and understand that billings to date very rarely equal earned revenues. And that's when over and under Billing adjustments come into play on the financial side of things. 

So now, if we apply that over billing adjustment to our billings, you can see a total revenue of $205,000. And compared to our costs, we are now at 12.5% net profit, which is very different from the 36% margin we were reporting on that first income statement. That is exactly what the WIP schedule does. 

This is an example of a filled out WIP schedule, where you can see the calculations we just did playing out. Here is our revised contract and our contract value. Here's our actual cost. The WIP Schedule automatically calculates earned revenue from those numbers. It quickly compares that to what we billed, and we get that over and under Billing amount. This WIP report is important for project managers to keep an eagle eye out for profit fade, and they can double check their cost to complete so they can make updated estimates if needed. It's also really important for the accounting team so that they can make those adjustments to the revenue on the income statement so that it reports consistently and properly to GAAP standards. This is what we will provide to the bank to get approval for the excavator loan. 

WIP schedules, 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.