This column’s headline might initially turn many people off. Estimators will probably mumble that accounting has nothing to do with estimating.
The realities are that understanding some accounting principles is essential for providing an all-inclusive estimate and producing a bid document. The need for understanding the basics is even more important for negotiations involving the bid.
NECA’s Electrical Contractors Financial Performance Report (Index 1055) is well worth studying and understanding. The latest edition is based on 1999 data. Earlier reports, while varying in dollar amounts, indicate that the same percentages can be expected. The report, which is based on financial data submitted by electrical contractors, is filtered to region of the country and to size of the revenue. Earlier reports filtered the data as the size of the contractors’ annual payrolls.
The booklet-sized report is loaded with brief and understandable information that can help estimators understand the business structure. Obviously the data in the report is skewed by a number of factors, such as the number of samples and the reporting forms used by participating contractors. It is not an end-all to the problem of applying the correct overhead and profit percentages that will get the job, and must be used with caution.
This booklet explains business terms, such as liquidity and profitability, which are key factors in ensuring that estimates produce the expected returns. Perhaps the report’s greatest value is the graphic showing how a labor-heavy job can net less than the company’s return. Firms that perform largely labor-only contracts specifically need to study the data.
The eye-opener percentages in this report are the comparison of the same dollars as they relate to the various survey points. These salient references relate to the percentages related to percentage of sales, percentage of projects’ direct cost, and percentage of direct labor of projects. The percentages represented the same amount of money, but varied when applied to particular types of projects.
The total percentage of sales is obviously 100 percent, but when applied as percentage of prime cost, the amount increases to a range of one to 128 percent. Most startling is the percentage as against percentage of direct labor, which was a hefty average of 396 percent!
An example of percentages, sometimes called long and short percentages, can best be demonstrated by a project whose overall sale price is $100,000. The project’s direct costs are $80,000, and the gross profit is $20,000. The percentages then are 25 percent when applied to direct costs, but only 20 percent when applied to the sale price.
These ratios of percentages are faced by all of us in everyday life applications as well.
If considering projects where labor and material values are approximately even, the third element would be the direct costs, profit and overhead. If in the example we would allocate a third to each of the major categories, then it becomes apparent that removing the material third would leave labor the sole generator for profit and overhead considerations. It also becomes apparent then that labor-heavy jobs require a larger markup than projects where materials and labor are relatively close in contributing to the burden. Conversely, projects with high material percentages can have their markups trimmed to the figure required to recover the gross profit.
Aside from covering costs of materials, labor and other project costs, every project must produce its share of recovering overhead costs, and produce a profit so the business can grow. Firms that have a number of years’ financial performance can continually adjust their project mark-up to remain competitive and profitable and be successful in winning the jobs they really want. Younger firms have less data to depend on and are at times forced into mark-ups that don’t allow the business to survive.
In an era when many projects are negotiated, the performance report can provide many worthwhile talking points. Claims are another area that can be well served by industry statistics. The report can erase the usual cries of using manufactured figures. Care must be taken though, because making use of the reports in this manner carries with it some risk if the company’s financial statements stray too far from the norm.
There is no substitute for accurate accounting. There is also no substitute for estimators learning the company’s financial condition and understanding their financial statements. The “bean counters” in the company may be an aggravation, but their input is critical to a profitable and competitive firm. Estimators are part of the overall equation. EC
DAVID is a professor of electrical technology at Long Beach City College, Calif., a consultant, and an expert witness. He can be reached at (562) 597-1877 or by e-mail at email@example.com.