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Automating Purchase Orders to Drive Accountability and Profits
BY: FRED ODE
Among the problems that arise as a contractor progresses from small
to mid-sized business owner is a loss of
control. Losing control of material and subcontractor costs is especially painful because
it can jeopardize cash flow and profits.
Growing contractors that no longer
purchase items from a single lumberyard,
or hire just one subcontractor, must learn
to track and manage numerous suppliers
and the costs committed to each. Lacking
an accurate system to track and manage
these costs, contractors risk overpaying
vendors or losing track of supplies.
Fortunately, sophisticated construction
accounting systems have automated the
processes by which contractors efficiently
track and manage their material, supply
and subcontractor expenses. Construction
accounting software packages with
purchase order and subcontract functions
allow contractors to bypass the time-consuming
tasks that otherwise would be
needed to control these costs.
Why Use Purchase Orders?
Businesses use purchase orders because
these contracts determine the conditions
of the sale. They spell out not just price,
but also delivery specifications, payment
guidelines and other terms equally important
to the sale.
From an accounting and management
perspective, the benefit of using purchase
orders for construction supplies is twofold:
1. They create a system for tracking the
physical or quantity aspect of the purchase
agreement.
2. They allow contractors to track the monetary
or billing aspect of the transaction.
Purchase Orders
for Quantity Tracking
As a contractor grows and its materials/supplies multiply, tracking quantities
becomes exponentially more difficult.
Consider the following example. Using
no purchase orders, Contractor A orders
100 widgets to complete a current job, but
receives only 30. The supplies arrive at the
job with a packing list, which is quickly
discarded. Meanwhile, the accounting
department receives an invoice for 70 widgets.
Having no idea what quantity was
actually delivered, the contractor issues
payment to the supplier. Not only is the
company’s billing off balance, but no one
can confirm how many widgets are at the
jobsite or on backorder.
Contractor B uses a purchase order system,
but without a sophisticated accounting
system has no way of efficiently tracking
supply quantities. When supplies arrive
at the jobsite, someone verifies the order
and sends the packing slip to accounting.
The accounting clerk files it with the original purchase order. When the invoice
comes in, the clerk matches the invoice
against the purchase order and the packing
slip—a time-consuming process.
To eliminate both the guesswork and
the manual work of tracking material and
supply orders, Contractor C uses purchase
orders, a system for verifying delivery and
a construction-specific accounting system.
If a supplier shorts the contractor by 70
widgets, the packing list is entered into the
accounting system where it automatically
ties to the original purchase order. A backorder
report tells everyone in the office and
on the jobsite how many widgets are currently
available. If the supplier tries to bill
for more than what was shipped, the system
notifies the contractor that the invoice
does not match the packing list.
Most contractors need to track far
more than 100 items at any given time.
Some contractors may have 30 jobs going
on, with perhaps 15 purchase orders for
each job. Depending on the materials and
the vendor, each purchase order might
involve multiple deliveries and invoices. A
well-planned purchase order system, along
with a sophisticated construction accounting
system, is the only way these contractors
can realistically track and manage job
materials and supplies.
Purchase Orders
for Monetary Tracking
From a financial standpoint, purchase orders
are critical because they help contractors
track material billings and committed costs.
In much the same way, subcontract management
systems help monitor billings,
retainage and committed costs associated
with subcontractors. Using a construction-specific
software package, contractors can
manage these processes faster and easier
while decreasing the risk of payment errors.
A drywall contractor working on a commercial
building, for example, might hire a
specialty subcontractor to complete $75,000
of interior stonework. When the project is
finished, the job cost report shows a total
profit of $100,000. This looks great until
the contractor realizes the subcontractor
has billed for only $25,000 of its work. Suddenly,
the contractor’s profits have shrunk
by half.
The Advantage of Technology
When a purchase order is entered into
the software, it generally posts to the job-costing
module as a committed cost, and
nothing else. Once the contractor receives
supplies and the packing slip is entered,
those items are marked as “received.”
Finally, when the supplier’s invoice is
received and the data is entered in the
accounts payable module, it flows to both
job costing and the general ledger.
As a result, contractors can produce
real-time job cost reports with details
such as the total supply order, how much
has been received or is on backorder, how
much has been billed, and the remaining
commitment.
Most sophisticated systems also have
safeguards in place to guarantee contractors
do not overpay their suppliers and subcontractors.
For example, if a subcontractor
sent a second $40,000 invoice to a contractor
that committed to $50,000 of work, a
red flag would raise immediately. The system,
recognizing that the contractor has
only $10,000 left in committed cost, would
prompt the user to put the invoice on hold
or go to a change order.
Many construction-specific software
programs also offer additional time-saving
benefits related to subcontract management.
With each invoice entered, not only
does a contractor see a summary of the
subcontract to help verify billing accuracy,
but it also sees the status of certificates of
insurance. Knowing that a subcontractor’s
workers’ compensation, liability insurance
or safety certification has expired
gives contractors the opportunity to avoid
potential problems.
Material, supply and subcontract costs
are all job-related expenses typically
charged directly to jobs, but that doesn’t
mean contractors can’t lose money on
them. Without the processes and the
financial controls in place to manage and
track these costs, contractors cannot protect
themselves from losses. Construction-specific software technology is the
best choice to streamline these systems
while improving job cost accountability
and profits.
Fred Ode is CEO of Foundation Software,
Brunswick, Ohio. For more information, call
(800) 246-0800, email fred@foundationsoft.com or visit www.foundationsoft.com.
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