The #1 question to ask when determining contract value in business valuation
Jason Pagan, ASA
How is revenue being booked on contracts?
The short answer: When accounting for contractual work, how revenue and expenses are booked on time-based projects (that span longer than 60 days) will have a direct reflection on cash flow and business value.
Why is this contract value question critical to the value of the business and the loan you are underwriting?
There are 2 accepted methods for this:
Completed Contract Method (conservative approach):
- Expenses are being recorded as the contractor work is being performed.
- Revenue is recorded upon completion of the job.
Percentage of Completion Method (most common approach):
- As the contractor moves the project, the revenue, expenses are tracked according to completion milestones.
The RED FLAG to be on the lookout for when considering contract value:
- Mismatched trends in accounts receivables and revenue OR above average cash flow margins
- Make sure you understand the sellers revenue recognition and that the accounting method aligns accordingly.
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Additional Business Valuation Resources
- Learn how inventory is considered in valuations
- Find out how to navigate the business valuation process successfully
- Discover when you may need a quality of earnings analysis
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The GCF Business Valuation Process
