Tips you can bank on!

There are two poor accounting methods commonly practiced by builders that banks don’t like (see below). If that sounds like you, follow these tips to help get your banker on side

Adapting to a growing economy is exciting, but exposes you to a new set of risks. An increasing number of jobs bring larger accounts, bigger bills and more financial exposure.

Managing cash flow is key, and more building businesses are looking to banks for assistance so they can make the most of good opportunities. Applying to the bank for funding can be intimidating, but it doesn’t have to be.

There are several things you can do now, to make it easier for when you need bank funding.

For example, many smaller builders I’ve worked with aren’t just focused on one project ­– they’re building for customers, while at the same time doing work for themselves. This may be as simple as the team working on the builder’s own home, helping with a renovation project, improving a rental, or building a spec home. While it’s useful to keep the team busy during a slow patch, operating in this manner can make it difficult to raise operating capital from the bank when you need it – if certain precautions aren’t followed.

Why is this?

Small builders usually operate just one set of accounts and put all purchases, including those for their own projects, through this one set. While this might be okay operationally, these accounts need to be adjusted by the accountant before they can be presented to the bank, because they make the business look like a bad risk!

A different point of view

Bankers use a completely different set of measures when assessing the value of a project.

If you want to make your business easy to present to the bank, then learn how to see things their way. It’s not hard, and it gives you a much better idea of the health of your business at any given
time – this has to be good.

Typically there are two things you may be doing that cause the bank to view your business as high risk. Change these actions and not only will you present better to bankers, you will give yourself a much better tool for measuring the performance of your company.

Action 1: Not charging your business for personal projects

For example, you purchase land on builder’s terms, and build a spec property to be sold on completion. You put all the expenses through the books and allocate the build costs to an expense account in your financial system, as you would with any job.

But there is no income to offset these expenses – at least not until the property is sold – which may be some time in the future and/or in a subsequent financial year. It makes your income look bad, and your profit and loss report will be a useless measure of your business’s operational performance, which is an important consideration for the bank.

While the build is in progress, your cash flow is tight. It will come right when the property is sold, but until then it threatens to undermine the whole business. You wonder if it is worth all the stress and sleepless nights, to say nothing of the risk. You need bridging finance – usually quickly – but that is going to take time.

The solution

Consider yourself a regular customer of your business. Invoice yourself at retail value for all the work and materials you use in your project (as you would a regular customer). Then the overall performance of your company (as measured by the gross profit line on the profit and loss report – accrued of course) will be more accurately reflected in your reports. What’s more, if it’s bad, then you know that your company is not performing well and you need to do something immediately rather than wait until it’s too late.

Of course, this does not remove the cash flow problem (because you will not be paying your invoices until the property is sold). However, it does offer a simple picture of the performance of your business, which may improve your chances of attracting funding, should your project be a good one and your performance history acceptable.

It goes with saying that you should have your accountant involved, to make sure that your accounts and tax implications are handled properly.

Action 2: Assigning capital expenditure to the profit and loss account

This isn’t as complicated as it sounds. It’s a common action, especially when you’re adding to, or improving, something you already own and intend to hold onto long term. The problem occurs
when you purchase supplies and labour out of your business account, then use them for your investment.

This is because you are allocating things to an expense account that should really be allocated to an assets account. Therefore, the direct expenses in your business accounts appear greater than they should, and the gross profit in your profit and loss report is reduced. This is not good, as it portrays your business as a bad risk for your banker.

Because building businesses operate on slim margins, when your accounts show even slimmer margins, bankers get the jitters.

The solution

Review where your investment expenses are being coded and assign them to an assets account. When you do, they ‘disappear’ from the operating part of your profit and loss report and show
up on your balance sheet. Your accountant can help you set this up.

Again, this does not add cash to your bank account, but it shows more accurately how your company is performing, and this is what banks review when considering your risk.

There is no question that accounting is complicated. Accountants earn their keep, but there is no reason why your day-to-day accounts shouldn’t work in your favour. By observing business
basics and improving your discipline, you can actually create accounts that work in your favour.

Accurate accounts aren’t only good for bank presentation. When used properly, they give you an edge by offering accurate insight into your business’ performance.

 

About The Successful Builder

Graeme Owen, based in Auckland, is a builders’ business coach. Since 2006, he has helped builders get off the tools, make decent money, and free up time for family, fishing, and enjoying sports. Get his free ebook: 3 Reasons Builders Lose Money and How to Fix Them for High Profits at http://TheSuccessfulBuilder.com.