Financial statements demonstrate not only an oilfield construction company’s financial position but also its future direction. Companies such as Morgan Construction who collaborate with their financial advisors to review their financial accounts are frequently able to identify issues early on – before they escalate into larger problems. Consider the following eight red flags before reading your next statement:
1. A cash accumulation (or lack thereof)
A healthy cash flow is one of the defining characteristics of a successful firm. However, the critical term here is flow.
On the other hand, if you find yourself relying on a line of credit because payments for a particular project are taking longer than expected, you may be in trouble. In any given job, a construction company should always be in an over billing situation. If under billing occurs, request an over/under billings review from your financial advisor to resolve this issue.
2. Equipment value is decreasing
Slow periods in your organization can result in an undetectable drop in the value of your equipment, requiring additional spending down the road. You may be tempted to believe that because your assets are not subjected to as much wear and tear, their worth is being preserved.
However, just like it does with a new car driven off the lot, annual depreciation continues to work on your assets in a steady manner. Additionally, you are not purchasing replacement equipment at current market values, which means you will almost certainly spend more when the time comes to update.
3. Significant modifications to liability
Significantly changing liabilities require close examination. If your profits decline, for example, certain liabilities, such as payments to profit-sharing schemes or deferred tax liabilities, may decrease as well.
On the other hand, if you take out a loan to keep your construction business viable, your liabilities may expand. Having a significant quantity of unsecured debt is a very poor indicator for any business.
4. Current liabilities are more than current assets
Due to the seasonal nature of many contractors’ operations like oil field construction, you may find yourself with more bills than cash on hand at some point during the year. This is something to keep an eye on and plan for. Additionally, having continuously greater current liabilities than current assets indicates that you are over leveraged.
5. Gross profit margins are contracting
Your gross profit margin is equal to the difference between your building costs for a given period — excluding overhead, wages, taxes, and interest payments — and your sales income for the same time.
If this ratio is decreasing, it indicates that your manufacturing expenses are increasing faster than your prices, or that you are charging less for construction services (perhaps in an attempt to gain market share). Both of these tendencies have the potential to quickly destroy your firm, so keep a tight eye on your profit margin.
6. The ratio of general and administrative expenses to earnings is increasing
General and administrative expenses, such as rent and utilities for oilfield construction, are less “elastic” than project-related expenses, like labor and materials. Thus, if your workload dwindles, the ratio of these expenses to profits will increase.
Additionally, keep an eye on indirect costs associated with each of your contracts, such as insurance. If the quantity of these charges increases dramatically, it is frequently because you have fewer contracts to allocate them to, which might result in financial difficulty.
7. Receivables are increasing at a higher rate than sales
If your receivables begin to outnumber your actual sales, be cautious. This could be a hint that customers are paying their bills later — or not at all — and that it’s time to restructure your collection operations.
8. Future projects that are too distant or unprofitable to pursue
While the sight of a big project backlog on your financial sheets may provide comfort, keep in mind that not all projects are made equal.