4.2 Accounting & Finance: Costs, Receivables, Cash Flow, Financial Statements & Ratios
Key Takeaways
The balance sheet follows the equation Assets = Liabilities + Owner's Equity and shows the business at one point in time.
The income statement reports revenue minus costs and expenses over a period, showing gross profit and net income.
The current ratio equals current assets divided by current liabilities, and working capital equals current assets minus current liabilities.
Markup is profit divided by cost, and margin is profit divided by selling price, so a 25% margin requires dividing cost by 0.75.
A profitable company can still run out of cash when receivables are slow, which makes deposits, progress billing, and collection policies part of financial management.
Costs and Expenses
| Category | Definition | Roofing examples |
|---|---|---|
| Direct job costs | Costs caused by a specific job | Shingles, underlayment, flashing, field labor and labor burden, dumpster, permit, subcontractors |
| Indirect (overhead) costs | Costs of running the business | Office rent, estimator salary, vehicles, insurance, licensing, advertising |
| Fixed costs | Stay the same regardless of volume | Rent, loan payments |
| Variable costs | Rise with volume | Materials, hourly labor |
Labor burden is the added cost of each labor dollar: employer FICA, federal and state unemployment tax, workers' compensation premiums, and benefits. Roofing workers' compensation rates are high, so include burden in every labor estimate.
Markup vs. Margin
To reach a target margin, divide cost by (1 minus the margin):
Example: Cost $12,000, target margin 25%. Selling price = $12,000 ÷ 0.75 = $16,000. Profit is $4,000, which is a 25% margin and a 33.3% markup. Marking up $12,000 by 25% gives only $15,000, a 20% margin.
Sales and Accounts Receivable
Accounts receivable (AR) is money customers owe for work already billed. Manage it by:
- billing promptly at each milestone;
- aging receivables (current, 30, 60, 90+ days) and following up on each bucket;
- collecting sworn statements and waivers so owners have no reason to withhold payment (MCL 570.1110);
- tracking lien deadlines, because a claim of lien must be recorded within 90 days after last furnishing (Section 5.4).
Days sales outstanding = (accounts receivable ÷ annual sales) × 365 estimates how fast you collect.
Cash Flow
Cash flow is the timing of cash in and out. A contractor can be profitable on paper and still unable to pay suppliers because the money arrives after the bills are due. Tools include:
- deposits and progress billing that match material purchases;
- a cash flow forecast by week during the busy season;
- a line of credit for seasonal gaps, since Michigan winters slow roofing;
- supplier terms such as "2/10 net 30," meaning a 2% discount if paid within 10 days, otherwise due in 30.
The statement of cash flows groups cash movement into operating, investing (equipment purchases), and financing (loans, owner contributions and draws) activities.
The Balance Sheet
The balance sheet shows the business on a single date:
| Assets | Liabilities and equity |
|---|---|
| Current: cash, accounts receivable, inventory, retainage receivable | Current: accounts payable, accrued payroll, current portion of loans, retainage payable |
| Long-term: trucks, trailers, equipment (net of depreciation) | Long-term: equipment loans |
| Owner's equity: capital plus retained earnings |
"Current" means convertible to cash, or due, within one year.
The Income Statement
The income statement covers a period (a month, quarter, or year):
| Line | Example |
|---|---|
| Revenue (contract income) | $900,000 |
| Minus cost of revenue (direct job costs) | $630,000 |
| Gross profit | $270,000 (30% gross margin) |
| Minus operating expenses (overhead) | $198,000 |
| Net income before tax | $72,000 (8% net margin) |
Contractors may recognize revenue on the completed-contract or percentage-of-completion method for longer jobs. Many small residential roofers use cash or accrual accounting on short jobs. Accrual records revenue when earned and expenses when incurred. Cash records them when money changes hands.
Key Ratios
| Ratio | Formula | What it tells you |
|---|---|---|
| Current ratio | Current assets ÷ current liabilities | Short-term ability to pay. Above 1.0 means more current assets than current debts |
| Quick (acid-test) ratio | (Cash + receivables) ÷ current liabilities | Liquidity without inventory |
| Working capital | Current assets − current liabilities | A dollar cushion for operations. Sureties watch it closely |
| Debt-to-equity | Total liabilities ÷ owner's equity | Leverage. Higher means more borrowed risk |
| Gross profit margin | Gross profit ÷ revenue | Job pricing and cost control |
| Net profit margin | Net income ÷ revenue | Overall profitability after overhead |
Worked example: Current assets are $180,000 (cash $40,000, receivables $110,000, inventory $30,000). Current liabilities are $120,000. Total liabilities are $150,000, and equity is $100,000.
- Current ratio = 180,000 ÷ 120,000 = 1.5
- Quick ratio = (40,000 + 110,000) ÷ 120,000 = 1.25
- Working capital = 180,000 − 120,000 = $60,000
- Debt-to-equity = 150,000 ÷ 100,000 = 1.5
Records Michigan Requires
A builder or contractor must keep a complete, accurate set of books and records (R 338.1534). LARA may demand a sworn financial statement within 30 days after an unsatisfied judgment or lien, or when it doubts the licensee's finances (R 338.1535). Money received for a specific project is held in trust for the people who supply that project under the Building Contract Fund Act (Section 5.2). Your books should show that each job's receipts paid that job's labor and suppliers first.
A roofing company has current assets of $150,000 and current liabilities of $100,000. What are its current ratio and working capital?
Current ratio 0.67 and working capital $50,000
Current ratio 1.5 and working capital $50,000
Current ratio 1.5 and working capital $250,000
Current ratio 2.5 and working capital $150,000
A reroof has direct costs of $9,000. What selling price produces a 25% gross margin?
$11,250
$9,250
$12,000
$13,500
Which financial statement shows a contractor's assets, liabilities, and owner's equity on a specific date?
The balance sheet
The income statement
The job-cost report
The accounts receivable aging report
Sections you finish are checked off in the contents.