When tracking project costs, accruals and progress must be considered carefully. When expenses arise during a project, it is common for some companies to “back charge” expenses incurred to accounting at the end of the period in which the expenses occurred. This is known as accrual accounting which is required by generally accepted accounting principles (GAAP). In contrast to accrual accounting, cash only accounting is a common method of accounting when tracking project costs.
Accruals are not an exact science. There are always assumptions and rules of thumb. Some problems will have simple solutions, like using the last month as an estimate for the next month’s costs, but other problems are more complex. Inaccurate estimates are often due to insufficient contractual provisions or inaccurate estimates. Tracking project costs is only half the battle; a successful project will also involve accurate cost control throughout the process. Accruals must be carefully considered if your company wants reliable figures to create accurate budgets, forecasts and reports.
What is an accrual?
What is an Accrual? Accruals are one of the most common ways that accountants measure income, expenses, and profit. Accruals are used to account for income or expenses that are earned, but will be realized (or paid) at a future date. This can be due to timing issues, such as an expense incurred in the current period, but not paid until the next period; or it can be due to non-payment, such as accounts receivable. What is an example of an accrual? A merchant may sell a product on December 31st, 2021 and bill at that time. That transaction would be recorded as revenue (sales) in the business’s 2021 accounting records. However, the merchant may not receive payment from the customer until January 30th, 2022. The sale would therefore also be recorded as a receivable (unpaid sales) in the business’s 2021 accounting records. Acquisitions and mergers are often handled using accruals to record the purchase price of a company at the time of acquisition. Since payments for stock purchases don’t occur immediately, this allows for accurate recording of both sides of the transaction – income and expenses – at the time of sale.
Why is it important to track accruals in a project?
Accruals in projects are important to track because they can artificially inflate or deflate progress if they are not properly accounted for in your project’s costs. Inaccurate accruals can cause a project’s reported progress to deviate from its actual performance. Accrual-based accounting employs the matching principle of accounting, which holds that expenses should be matched with revenues in the period in which they occur. For projects, this translates to recognizing costs, even partial ones, when the work / service / material is completed / supplied. Therefore, mismatches between progress and costs will affect all cost performance calculations and measures.
Troubleshooting when things don’t work out as planned
When assigning accruals, there must always be a match between assessed progress and assessed costs. When progress is found to have been incorrectly assessed, the corresponding accrual (or recognized costs) must also be corrected. To insure your project cost tracking stays accurate, be sure to address your actual (paid plus accrued) costs at the same time.
Furthermore, to insure your project’s contractors are in step, it will also be helpful to align accruals of contractor revenues with your project’s associated, and accrued, costs. Having regular meeting where progress and costs / revenues are aligned can help to avoid misunderstandings, which should lead to lower instances of claims. This should also expedite contract closeouts, as there would be minimal assessment to be done at the end.
Knowing the basics of accruals will help you budget, forecast and report project cost data with more accuracy. It will also help you in reducing contract claims and closeout issues. Properly accruing project costs along with progress will insure your project team has the most accurate cost data available, feeding into the most accurate cost performance calculations and assessments available.