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I did the two and a half day Granite Construction training for the Washington State area. Our venue was a Holiday Inn, so needless to say we were in luxury for this one. The class was full at 21 participants. The big topic of this one was over billing and under billing. These two numbers for Granite are critical to their business. In fact over billings and under billings are critical to any project based business. These two numbers show up as accounts on the balance sheet. An over billing is a liability on the balance sheet. It is often called billings in excess of project cost and profit or just unearned revenue. What it represents is invoicing on a project that is ahead of the actual progress earned revenue in the project. So if Granite invoices $2,000,000 to a client as the down payment on a major project, all of that revenue is a liability or over billing because Granite has charged the customer more than it can recognize on its income statement. In the early stages of most projects they are in an over billed state due to initial billings to get started. Later as the project approaches completion the billing might be less than current progress. For example, if the work is 90% done on a project but the customer is holding 20% for the final approval billing then that would be an under billing. This under billing would be an asset on the balance sheet called something like unbilled revenue.
It turns out that their under billing asset and the over billing liability are really important to track for project based companies for several reasons. First, a company that is net overbilled usually is an indication that the business is going to have plenty of work going forward. On the other hand, if the company is in a net under billed position that often indicates that the business is not getting enough work to replace the jobs that are nearing completion and therefore is in an unbilled situation. These over/under billing accounts also greatly affect cash flow. Being over billed means positive cash flow while under billed is a drag on cash flow. When looking at a project based business one should look closely at these two accounts to understand where they are positioned. I often explain these accounts to our bankers so they can better understand our project based financials. It’s an uphill battle but I think some of my banking friends are starting to catch on. 🙂
We had a great session. In the Granite case study the students learn how much cash can be affected by billings and collections. In their business staying as over billed as possible and collecting from their customers can change an areas cash situation by millions of dollars. We have learned the same lesson in my manufacturing business, Setpoint Systems, too. Once we stopped starting projects until we had our down payment on the work in hand all of our cash flow problems went away.