How do I handle paper losses on real estate?

April 2008

"My company owns our office building, which we carry on our books at the original purchase price. Recently, the building was reassessed for $200,000 less than we paid for it. Do I have to update the balance sheet? If so, it will wipe out almost all of last year's profits."

Mike: As a general rule, companies don't write down long-lived assets, like real estate, for temporary market declines (and they also don't book short-term real estate gains). But if there are signs that the value of your real estate has declined more or less permanently, you should recognize the loss as soon as it's measurable--sooner, rather than later.

Incidentally, this situation is one reason why many companies move their real estate off the balance sheet completely--for instance, by transferring title to the company's owners.

How can we clean up non-standard financials?

November 2007

"We plan to acquire about a dozen small service firms, to create a roll-up we can take public. Most of the companies we've looked at have rather eccentric (well, 'weird' might be a better word) financial records. We know we'll need GAAP-standard reporting for the IPO, but the cost of going back and reclassifying everyone's books is pretty steep. Suggestions?"

Mike: No question, at some point you're going to have to put in place uniform accounting systems, reports, charts of accounts, etc. across all the acquired companies. You'll also need to go back at least a couple of years and reclassify each company's income and expense items to match your standard reporting model. Depending on the nature of the business, you might also have to review everyone's contracts to make sure there aren't hidden revenue recognition problems that will surface during the IPO. It's a big job.

My advice would be to bite the bullet right up front, as you negotiate each acquisition. Put the responsibility (and cost) for the financial cleanup on each seller, and hold back at least some of the cash until the job is done. This way, the companies with the best financial reporting will get close to full price, while the "weird" ones will pay a price for their eccentricities.

Are we calculating "completion" correctly?

March 2007

"I need a reality check on our accounting methods. When we do big projects, we book revenue based on the percentage of the job that we complete each month. But our contracts also include a big chunk of long-term maintenance revenue, which we bundle into the total price. How do we treat this revenue when we figure the completion percentages?"

Mike: Regardless of how you present the project price in your contracts and invoices, internally you need to break out the project work and the follow-on maintenance as completely separate elements. You should record the revenue from the project work on a percentage of completion basis (or something similar), and record maintenance over the maintenance period.

And no, it doesn't matter when customers actually pay you for project work or maintenance, unless you're running the company on a cash basis. You should recognize revenue based on the work or services you provide during each phase of the contract.