By Robert Vergeer and Marcus Koehl, Wipfli
In the construction industry, accurate estimating is one of the cornerstones upon which successful companies are built. From securing projects through competitive bids to steering strategic decisions and ensuring financial stability, estimation impacts every part of a construction company’s operations.
Accurate estimating not only determines your construction firm’s direction but also helps ensure its long-term success in a competitive and changing industry.
Why construction cost estimates are vital
Estimating in a construction company is far more than crunching numbers — it shapes the trajectory of the business. Accurate estimates bolster financial planning, facilitate better decision-making and build client trust.
In contrast, poor estimates can lead to financial hardships, missed opportunities and compromised project outcomes. They can even mask potential project issues.
If a project has great billing terms and can be prebilled, issues may not be detected until the project is mostly complete. When project issues are known early, teams can help mitigate problems by obtaining change orders, pushing subcontractors to complete work or adjusting staff on the project.
Emphasizing the importance of precise estimating empowers your firm to achieve sustainable growth despite competition.
Here are five ways construction cost estimating can impact your firm’s success:
1. The construction bid process
Estimates are the key to winning or losing a project during the bidding process. Companies that have comprehensive and realistic cost estimates have a better grasp on a potential profitability and can secure projects where they are more confident in the outcome.
They are also able to recognize and turn down projects that will not benefit the company in the long run. Alternatively, poor estimations may result in winning projects that will not benefit the company or losing potentially lucrative opportunities.
2. Strategic planning
Estimates on current and future projects influence budgets and strategic planning.
Overestimating gross profits could lead to ill-advised decisions, such as expansion or hiring additional personnel, which may strain financial resources when actual profits fall short.
Overestimating project gross profits has a double effect on expenses. Reduced gross profit and costs related to the strategic decisions could lead to an easily avoidable cash crunch.
3. Project estimation
Project level estimates have a direct bearing on tax calculations and payments. Fluctuations in project estimates during their execution can cause quarterly tax payments to be significantly overpaid or underpaid. Additionally, unexpected increases in gross profits on projects spanning year-end can lead to significant look-back interest and penalties.
4. Cash flow calculations
Accurate estimates are integral to cash flow calculations.
Project-specific cash flow projections account for the gradual accumulation of cash as the project progresses. These cash flow estimates roll up to an entity-wide cash flow projection, so estimating errors can cause projectwide and companywide cash flow issues, especially if significant costs are going to be incurred prior to receiving funds.
Upfront costs and prepayments can also mask the actual profitability of a project until it’s well underway, potentially leading to unforeseen cash flow issues.
5. Financial reporting
Estimates have a direct effect on revenue recognition and financial reporting. Companies with loans and covenants must meet specific metrics set by banks, and negative changes to project estimates can jeopardize compliance, potentially leading to default before the company is able to do anything about the issue.
Robert Vergeer, CPA, is a seasoned manager with a wealth of experience spanning the construction and real estate industries. With an extensive eight-year tenure as a controller at a leading general contractor, he has amassed a wealth of real-world experience. Furthermore, Robert’s background includes several years of valuable experience within the construction real estate group of a prominent CPA firm, further enriching his industry knowledge and insights.
Marcus Koehl, CPA, is an experienced and trusted outsourced CFO specializing in providing financial leadership and strategic support to the construction industry for more than 15 years. As an outsourced CFO, Marcus collaborates closely with ownership and management teams, consulting on financial statements and key metrics, as well as offering tailored financial strategies and systems to optimize operations and maximize profitability.