Lykes Excelleration Surety 3-9-2011

Unsure about Surety?

Excelleration 2011
Lykes Insurance Learning Series

March 9, 2011

©2011 LarsonAllen LLP
P
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Today’s Presenters
• Peter A Thomson, CPA, AFSB
813.470.5031, pthomson@lykesinsurance.com

Vice President – Surety
Lykes Insurance, Tampa
L k I T
www.lykesinsurance.com

Bachelors, Southern Illinois University,
Accounting and Finance
g
Associate in Fidelity and Surety Bonds

nAllen LLP
©2011 Larson
30 years working in construction surety bonding
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Today’s Presenters
• John Reed, CPA, CCIFP
239.226.9903, jreed@larsonallen.com

Principal, Construction and Real Estate
LarsonAllen LLP, Fort Myers
http://www.larsonallen.com/Construction_and_Real_Estate/

Masters of Accounting, Nova University, Fort Lauderdale
CPA licensed in Florida
Certified Construction Industry Financial Professional
Certified Specialist in Estate Planning
Certified Information Technology Professional

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Practice exclusive to construction and real estate in Florida

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Today’s Agenda
• What is Surety?
• Trends in today’s surety markets. Can I get bonding?
• How does a Surety look at your information?
– Working capital with surety adjustments
– Liabilities to equ y
ab es o equity
– GAAP versus tax basis financial statements
– Audited, reviewed or compiled financial statements
– Job schedules
– Required financial statement disclosures
– Do-s and Do Nots - What do Sureties like and not like?
– What does a Surety think about your company using
QuickBooks?
• Surety information checklist

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The Contractor / Surety / Owner Relationship

3.
3 And Contractor Surety
S t 2.
2 Then Surety pays to
reimburses Surety for complete work on owner’s
their payments job, or pays the unpaid
labor, material and
subcontractors

Contractor Owner

1.
1 If contractor fails to
complete bonded job, or
leaves unpaid labor, material
and subcontractors

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Trends in Today’s Surety Markets

• Bonding market is down but bonding is available for well
capitalized companies

• There is increasing surety bank and general contractor
surety,
pressure on subcontractors to upgrade financial
statements from reviews to audits, and from compilations
to reviews

• Subcontractors being asked to bond more work

• Less government work this year as state and local

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governments deal with budget issues What work is
issues.

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being bid is even more competitive than last year.
6

How Does a Surety Look At Your Information

• Financial stability is one of the most important
factors in obtaining surety credit.

• While most clients focus their attention on their
income statement, the most important section of
their financial statement to a surety is the
balance sheet.

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Key Financial Ratios for Sureties
• Working Capital: Current Assets minus Current Liabilities

• Adjusted Working Capital: Working Capital from above less
above,
adjustments to back out unproductive current assets such as:
– Shareholder, officer, and related party receivables
– Prepaid Expenses
– Some portion of inventory (often 50%) that is not on a job site
in entor
– Underbillings
– Bond programs are usually based on some multiple of (often 10 times)
adjusted working capital

• Debt to Equity
– The ratio of all company liabilities and debt to stockholder equity. As a
general rule sureties like to see a ratio of 2 to 1 or less
rule, less.

• Equity – Net Worth

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– The maximum credit for a bonding program is often 10 times net worth.

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Key Financial Ratios for Sureties
• An example of a working capital calculation by a
Surety.

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GAAP vs. Tax Basis Financial Statements
• Sureties want GAAP (Generally Accepted Accounting Principles) financial
statements. Tax basis statements are not useful to a Surety. They lower the
ability of the surety to rely on your financial statements and reduces your ability to
get a bond
bond.

• The purpose of GAAP based financial statements is to fairly present a
Company’s financial position, results of operations, and cash flows. The purpose
of Tax basis accounting is (or should be) to show as little income as possible as
possible,
late as possible. This is counterproductive to Surety credit.

• GAAP contractor financial statements are (almost) always on a Percent
Complete basis

• Cash, Accrual, and Completed Contract are tax methods

• Section 179 (writing off asset purchases in the year of purchase) is a tax method.
GAAP requires depreciating assets over their useful life.

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• Even Tax Percent Complete is different than GAAP Percent Complete.
p p

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Compiled vs. Reviewed or Audited Financial
Statements – What is the difference?
• Compiled financial statements – The most basic level of CPA prepared
financial statements. The CPA provides no assurance that the financial
statements are fairly presented.
t t t f il t d

• Reviewed financial statements - A CPA performing a review will seek a
more in depth understanding of the client’s business and financial
client s
information through inquiries and analytical procedures. The CPA provides
only limited assurance that the financial statements are fairly presented.

• Audited financial statements – A CPA performing an audit provides
assurance, through the expression of an “opinion” in the “Auditor’s Report,”
as to whether or not the financial statements are fairly presented in
accordance with generally accepted accounting principles (GAAP). An audit
requires the CPA to document an extensive understanding of the client’s
accounting processes and internal controls. The CPA will also obtain further

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audit evidence through inquiries, analytical procedures, testing of

©2011 Larson
accounting records, and confirming information with third-parties.

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Job Schedules Should Be Included In a
Contractor s
Contractor’s Financial Statement
• Include separate schedules of open and closed jobs.
This should be a complete listing of all contract activity
activity.

• All direct and indirect costs (such as equipment
depreciation, fuel,
depreciation fuel payroll taxes workers compensation
taxes,
insurance, etc.) should be job costed and included in the
schedules. If your accounting software can’t do that
these costs must be allocated (and you should look for
new software).

• There should be a summary schedule (example page
23) that MUST equal the total revenue and direct costs
on the income statement (example page 4). There

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s ou d
should be no u a ocated costs o revenues.
o unallocated or e e ues

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Note Disclosures That Should Be Included In a
Contractor s
Contractor’s Financial Statement
• Summary of accounting policies (example note 1, pages 8-12)

• Accounts receivable breakdown for open and closed jobs and receivable
retention held (
(example note 2 pages 12-13)
)

• Summary of over and under billings (example note 4 page 16)

• Backlog note (example note 5 page 17)

• Income taxes (C Corp example note 9 pages 20-21) (For S Corps or LLCs
see additional example handout that would be included as part of note 1)

• Related party transactions (example note 12 page 21).

• Commitments and Contingencies (if any) (example note 13 page 22)

• Consolidation of “Variable Interest Entities”

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Do-s and Do Nots – What do Sureties like and not
like?
• Do-s of Surety
– Maximize profits
– Minimize overhead
– Surround yourself with good people
– Make b i
M k a business plan and follow it
l d f ll
– Carefully select your 5 advisors
– Make a plan for business continuity
– Fund the continuity plan
– Stay focused on construction
– Consult surety agent and CPA before significant financial
decisions
– Avoid litigation

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– Establish a good line of credit with your bank

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Do-s and Do Nots – What do Sureties like and not
like?
• Do Not's of Surety

– Invest in any kind of speculation
– Buy planes, trains, or boats
– Borrow money from the business
– If a Sub S Corp - don't take excessive distributions
– Make loans or guarantee obligations of others
g g
– Jump from one surety to another
– Allow the business to buy out a stockholder before consulting
your surety agent and CPA
– Do not get your bonds from an agency that doesn’t have
specialists in surety

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What the Surety looks for

The traditional C’s:
C s:
 Character
 Capacityy
 Capital

Additional C’s:
 Continuity
 CPA

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Continuity Plans

• What would happen to your Company,
employees and jobs if you were killed or hurt in
a car accident tomorrow?

• A continuity plan addresses these contingencies.
The documentation showing you thought
through that process is a Continuity Plan.

• Sureties like to see that a Company has a
Continuity Plan in place.

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What does a Surety think about your Company
using QuickBooks?
• Using QuickBooks demonstrates a lack of
control over your job cost
– QuickBooks is not setup to easily produce essential reports to control
job cost. Job cost reporting is usually augmented by using
spreadsheets. Spreadsheets introduce human error, take too much
time and promote untimely job reporting.
– QuickBooks complicates the process of allocating indirect labor costs
such as payroll tax and insurance costs to jobs
– QuickBooks lacks basic job cost controls to ensure that every
transaction that effects cost of construction is coded to a job.
t ti th t ff t t f t ti i d dt j b
– QuickBooks lacks basic overhead controls to ensure that every
overhead transaction can not be charged to a job.
– QuickBooks allows deletion a d c a ge o records, a d has a
Qu c oo s a o s de et o and change of eco ds, and as an
inadequate control over changes to data.
– By using a $250 accounting program that is deficient in job cost
accounting, you are sending a message to your Surety that you believe

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it isn’t important to spend enough money to monitor the cost on your
isn t

©2011 Larson
jobs or to have adequate controls in place to control your job costs.

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Surety Information Checklist
 Independent audited/reviewed FS w/in 90-120 days of
year end
 Aging of AR and AP
f
 Analysis of overhead costs (supplemental information)
 Equipment schedules
 Outline of bank agreements
 Quarterly internal financial statements
 Quarterly up to date open and closed job schedules
 Comprehensive business plan, forecast or strategy
 Resumes of key employees and management
 Personal and corporate indemnity
 Personal financial statements

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©2011 Larson
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20
Questions?

©2011 Larson
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SAMPLE CONTRACTING COMPANY, INC.

FINANCIAL STATEMENTS
AND SUPPLEMENTARY INFORMATION

YEARS ENDED DECEMBER 31, 2010 AND 2009

TABLE OF CONTENTS

ACCOUNTANTS’ REVIEW REPORT 1

FINANCIAL STATEMENTS

BALANCE SHEETS 2

STATEMENTS OF INCOME 4

STATEMENTS OF STOCKHOLDERS’ EQUITY 5

STATEMENTS OF CASH FLOWS 6

NOTES TO FINANCIAL STATEMENTS 8

SUPPLEMENTARY INFORMATION

SCHEDULE OF EARNINGS FROM CONTRACTS PERFORMED
DURING 2010 23

SCHEDULE OF CONTRACTS COMPLETED DURING 2010 24

SCHEDULE OF CONTRACTS IN PROGRESS AT DECEMBER 31,
2010 25

SCHEDULE OF COST OF CONTRACT REVENUES AND GENERAL
AND ADMINISTRATIVE EXPENSE 26

Lars"JnAlleIi LLP
CPAs, Consultants & Advisors
www.larsonallen.com

ACCOUNTANTS' REVIEW REPORT

Board of Directors and Stockholders
Sample Contracting Company, Inc.
City, State

We have reviewed the accompanying balance sheets of Sample Contracting Company, Inc. as of
December 31, 2010 and 2009 and the related statements of income, stockholders' equity, and cash
flows for the years then ended. A review includes primarily applying analytical procedures to
management's financial data and making inquiries of company management. A review is substantially
less in scope than an audit, the objective of which is the expression of an opinion regarding the financial
statements as a whole. Accordingly, we do not express such as opinion.

Management is responsible for the preparation and fair presentation of the financial statements in
accordance with accounting principles generally accepted in the United States of America and for
designing, implementing, and maintaining internal control relevant to the preparation and fair
presentation of the financial statements.

Our responsibility is to conduct the review in accordance with Statements on Standards for Accounting
and Review Services issued by the American Institute of Certified Public Accountants. Those standards
require us to perform procedures to obtain limited assurance that there are no material modifications
that should be made to the financial statements. We believe that the results of our procedures provide
a reasonable basis for our report.

Based on our reviews, we are not aware of any material modifications that should be made to the
accompanying financial statements in order for them to be in conformity with accounting principles
generally accepted in the United States of America.

Our review was made for the purpose of expressing limited assurance that there are no material
modifications that should be made to the financial statements in order for them to be in conformity with
generally accepted accounting principles. The data presented in supplementary schedules
accompanying the financial statements are presented only for purposes of additional analysis and has
been subjected to the inquiry and analytical procedures applied in the review of the basic financial
statements, and we are not aware of any material modifications that should be made thereto.

~I-LP
LarsonAllen LLP
Fort Myers, Florida
March 4, 2011

lSI !J!j k1
INTERNATIONAL
(1 )
An independent member of Nexia International

BALANCE SHEETS
DECEMBER 31, 2010 AND 2009
(SEE ACCOUNTANTS' REVIEW REPORT)

2010 2009
ASSETS

CURRENT ASSETS
Cash and Cash Equivalents $ 183,000 $ 245,000
Securities Available-for-Sale 555,000 400,000
Accounts Receivable:
Current Billings on Contracts 2,945,000 2,270,000
Retainages on Contracts 380,000 260,000
Other Current Noncontract Receivables 125,000 40,000
Allowance for Uncollectible Accounts (100,000) (30,000)
Costs and Estimated Earnings in Excess
of Billings on Uncompleted Contracts 550,000 400,000
Inventories 165,000 90,000
Prepaid Expenses 37,000 32,000
Deferred Income Taxes 15,000 12,000
Total Current Assets 4,855,000 3,719,000

PROPERTY AND EQUIPMENT
Land 75,000 75,000
Buildings 420,000 420,000
Equipment 1,875,000 1,590,000
Vehicles 280,000 240,000
Office Equipment 145,000 120,000
Total 2,795,000 2,445,000
Less: Accumulated Depreciation 1,435,000 1,110,000

Total Property and Equipment 1,360,000 1,335,000

OTHER ASSETS
Notes Receivable - Officers 70,000 50,000
Investment in Joint Venture 75,000 50,000
Securities Held-to-Maturity 260,000 250,000
Cash Value of Life Insurance, Less Policy Loans
of $30,000 and $20,000, Respectively 80,000 60,000
Total Other Assets 485,000 410,000

Total Assets $ 6,700,000 $ 5,464,000

See accompanying Notes to Financial Statements.
(2)

BALANCE SHEETS (CONTINUED)

2010 2009

LIABILITIES AND STOCKHOLDERS' EQUITY

CURRENT LIABILITIES
Current Maturities of Long-Term Debt $ 783,000 $ 917,000
Accounts Payable:
Current 1,640,000 1,564,000
Retainage 600,000 500,000
Billings in Excess of Costs and Estimated
Earnings on Uncompleted Contracts 450,000 120,000
Accrued Expenses 475,000 350,000
Income Taxes Payable 110,000 10,000

Total Current Liabilities 4,058,000 3,461,000

LONG-TERM LIABILITIES
Long-Term Debt (Less Current Maturities) 407,000 303,000

Total Long-Term Liabilities 507,000 353,000

Total Liabilities 4,565,000 3,814,000

STOCKHOLDERS' EQUITY
Common Stock - No Par Value; 100,000 Shares
Authorized, 50,200 and 50,000, Respectively,
Shares Issued and Outstanding 60,000 50,000
Retained Earnings 2,050,000 1,590,000
Unrealized Gains on Securities 25,000 10,000
Total Stockholders' Equity 2,135,000 1,650,000

Total Liabilities and Stockholders' Equity $ 6,700,000 $ 5,464,000

(3)

STATEMENTS OF INCOME

2010 2009
AMOUNT PERCENT AMOUNT PERCENT

CONTRACT REVENUES EARNED $ 18,500,000 100.0 % $ 12,500,000 100.0 %

COST OF CONTRACT REVENUES 16,280,000 88.0 11,050,000 88.4

CONTRACT GROSS PROFIT 2,220,000 12.0 1,450,000 11.6

GENERAL AND ADMINISTRATIVE
EXPENSE 1,340,000 7.2 1,135,000 9.1

INCOME FROM OPERATIONS 880,000 4.8 315,000 2.5

OTHER INCOME (EXPENSE)
Income from Joint Venture 35,000 0.2 10,000 0.1
Gain (Loss) on Sale of Equipment 15,000 0.1 (10,000) (0.1)
Investment Income 10,000 0.1 - -
Interest Expense (145,000) (0.8) (140,000) (1.1)
Realized Gain (Loss) on Sale of Securities (20,000) (0.1) (10,000) (0.1)
Total Other Income (Expense) (105,000) (0.6) (150,000) (1.2)

INCOME BEFORE INCOME TAXES 775,000 4.2 165,000 1.3

PROVISION FOR INCOME TAXES 315,000 1.7 60,000 0.5

NET INCOME $ 460,000 2.5 $ 105,000 0.8

(4)

STATEMENTS OF STOCKHOLDERS’ EQUITY

Unrealized
Gains
Common Retained (Losses) on
Stock Earnings Securities Total

BALANCE, JANUARY 1, 2009 $ 50,000 $ 1,485,000 $ 5,000 $ 1,540,000

COMPREHENSIVE INCOME
Net Income - 105,000 -

Other Comprehensive Income, Net of Tax:
Unrealized Losses on Securities:
Unrealized Holding Gains Arising During
the Year (Net of $1,000 Deferred Income Tax) - - 5,000
Total Comprehensive Income 110,000

BALANCE, DECEMBER 31, 2009 50,000 1,590,000 10,000 1,650,000

COMPREHENSIVE INCOME
Net Income - 460,000 -

Other Comprehensive Income, Net of Tax:
Unrealized Losses on Securities:
Unrealized Holding Gains Arising During
the Year (Net of $5,000 Deferred Income Tax) - - 15,000
Total Comprehensive Income 475,000

Sale of 200 Shares to an Employee
for Cash 10,000 - - 10,000

BALANCE, DECEMBER 31, 2010 $ 60,000 $ 2,050,000 $ 25,000 $ 2,135,000

(5)

STATEMENTS OF CASH FLOWS

2010 2009

CASH FLOWS FROM OPERATING ACTIVITIES
Cash Received from Contracts $ 17,955,000 $ 12,630,000
Cash Paid to Suppliers and Employees (17,134,000) (12,345,000)
Interest Paid (145,000) (140,000)
Income Taxes Paid (173,000) (65,000)
Cash Provided by Operating Activities 503,000 80,000

CASH FLOWS FROM INVESTING ACTIVITIES
Payments for Purchase of Equipment and Vehicles (410,000) (180,000)
Proceeds from Sale of Equipment and Vehicles 50,000 20,000
Increase in Cash Value of Life Insurance (30,000) (10,000)
Advances of Note Receivable - Officers (20,000) (50,000)
Purchase of Investments (235,000) (100,000)
Proceeds from Sale of Investments 80,000 200,000
Proceeds on Joint Venture Distribution 10,000 -
Investment in Joint Venture - (40,000)
Cash Used by Investing Activities (555,000) (160,000)

CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from Long-Term Borrowings 330,000 100,000
Payments on Long-Term Debt (150,000) (80,000)
Net Proceeds from (Payments on) Short-Term Borrowings (210,000) 200,000
Proceeds from Life Insurance Policy Loans 10,000 -
Proceeds from Sale of Common Stock 10,000 -
Cash Provided by (Used in) Financing Activities (10,000) 220,000

NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS (62,000) 140,000

Cash and Cash Equivalents - Beginning of Year 245,000 105,000

CASH AND CASH EQUIVALENTS - END OF YEAR $ 183,000 $ 245,000

(6)

STATEMENTS OF CASH FLOWS (CONTINUED)

2010 2009
RECONCILIATION OF NET INCOME TO CASH
PROVIDED BY OPERATING ACTIVITIES

Net Income $ 460,000 $ 105,000

Adjustments to Reconcile Net Income to Cash
Provided by Operating Activities:

Depreciation 350,000 300,000
(Gain) Loss on Sale of Equipment (15,000) 10,000
Realized (Gain) Loss on Sale of Securities 20,000 10,000
Income from Joint Venture (35,000) (10,000)
Accretion on Securities Held-to-Maturity (10,000) -
(Increase) Decrease in:
Contract Accounts Receivable (725,000) 150,000
Costs and Estimated Earnings in Excess
of Billings on Uncompleted Contracts (150,000) 60,000
Inventories (75,000) (20,000)
Other Current Assets (90,000) (30,000)
Increase (Decrease) in:
Accounts Payable 176,000 (375,000)
Earnings on Uncompleted Contracts 330,000 (80,000)
Accrued Expenses 125,000 (10,000)
Income Taxes Payable 100,000 (35,000)

Cash Provided by Operating Activities $ 503,000 $ 80,000

(7)

NOTES TO FINANCIAL STATEMENTS

NOTE 1 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Company's Business and Operating Cycle
The Company operates primarily as a general contractor in heavy and industrial
construction in Florida. The work is performed under cost-plus-fee contracts, fixed price
contracts, fixed price contracts modified by incentive and penalty provisions and unit price
contracts. These contracts are obtained through a competitive bidding process and vary in
size and duration. The contracts are undertaken by the Company alone or in partnership
with other contractors through joint ventures.

The Company, as conditions for entering into construction contracts, has provided surety
bonds approximating $7,300,000 at December 31, 2010 and $5,280,000 at December 31,
2009. These bonds are collateralized by the contracts receivable.

The length of the Company’s contracts varies but is typically less than two years.
Accordingly, assets to be realized and liabilities to be liquidated within the operating cycle
are classified as current assets and liabilities.

Estimates and Assumptions
The preparation of financial statements in conformity with U.S. generally accepted
accounting principles requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those estimates.

Revenue and Cost Recognition
Revenues from fixed-price, modified fixed-price and unit price construction contracts are
recognized on the percentage-of-completion method, only after the contract attains a 10%
completion stage, measured by the percentage of costs incurred to date to estimated total
costs for each contract. This method is used because management considers expended
costs to be the best available measure of progress on these contracts. Revenues from
cost-plus-fee contracts are recognized on the basis of costs incurred during the period plus
the fee earned, measured by the cost-to-cost method, or ratably over the term of the
project, depending upon the terms of the individual contract. Because of inherent
uncertainties in estimating costs and revenues, it is at least reasonably possible that the
estimates used will change.

(8)


NOTE 1 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Revenue and Cost Recognition (Continued)
Contract costs include all direct material, subcontractors, labor costs, and equipment costs
and those indirect costs related to contract performance. General and administrative costs
are charged to expense as incurred. Provisions for estimated losses on uncompleted
contracts are made in the period in which such losses are determined. Changes in job
performance, job conditions, and estimated profitability, including those arising from penalty
provisions and final contract settlements, may result in revisions to costs and income, which
are recognized in the period in which the revisions are determined. Profit incentives are
included in revenues when their realization is reasonably assured. An amount equal to
contract costs attributable to claims is included in revenues when realization is probable
and the amount can be reliably estimated.

The asset, "Costs and estimated earnings in excess of billings on uncompleted contracts,"
represents revenues recognized in excess of amounts billed. The liability, "Billings in
excess of costs and estimated earnings on uncompleted contracts," represents billings in
excess of revenues recognized.

Concentrations of Credit Risk
The Company performs credit evaluations of its customers and subcontractors and may
require surety bonds. Liens are filed, when permissible, on construction contracts where
collection problems are anticipated. As of December 31, 2010 and 2009, accounts
receivable are due from customers in the Florida and are not concentrated in a particular
industry.

The Company’s cash balances are maintained in two bank deposit accounts. The balances
of these accounts may be in excess of federally insured limits.

Concentrations in Operations
The Company currently buys substantially all its materials from one supplier. Although there
are a limited number of suppliers of such materials in the industry, management believes
that other suppliers could provide similar materials on comparable terms. A change in
suppliers, however, could cause a delay in construction and adversely affect operating
results.

Cash and Cash Equivalents
Cash equivalents are securities held for cash management purposes having maturities of
three months or less from date of purchase.

(9)



Contracts Receivable
Contracts receivable from performing construction are based on contracted prices. The
Company provides an allowance for doubtful collections which is based upon a review of
outstanding receivables, historical collection information and existing economic conditions.
Normal contracts receivable are due 30 days after the issuance of the invoice. Contract
retentions are due 30 days after completion of the project and acceptance by the owner.
Receivables past due more than 120 days are considered delinquent. Delinquent
receivables are written off based on individual credit valuation and specific circumstances
of the customer.

Investments in Securities
The Company’s investments in securities are classified in two categories and accounted for
as follows:

Securities to be Held-to-Maturity
Securities for which the Company has the positive intent and ability to hold to maturity
are reported at cost, adjusted for amortization of premiums and accretion of discounts
which are recognized in interest income using the interest method over the period to
maturity.

Securities Available-for-Sale
Securities available-for-sale, consisting of securities not classified as trading securities
or as securities to be held to maturity, are reported at fair value.

Declines in the fair value of individual held-to-maturity and available-for-sale securities
below their cost that are other than temporary have resulted in write-downs of the individual
securities to their fair value. The related write-downs have been included in earnings as
realized losses. Unrealized holding gains and losses, net of tax, on securities available-for-
sale are reported as a net amount in a separate component of stockholders’ equity until
realized. Gains and losses on the sale of securities available-for-sale are determined using
the specific-identification method.

Fair Value Measurement
The Company categorizes its assets and liabilities measured at fair value into a three-level
hierarchy based on the priority of the inputs to the valuation technique used to determine
fair value. The fair value hierarchy gives the highest priority to quoted prices in active
markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable
inputs (Level 3). If the inputs used in the determination of the fair value measurement fall
within different levels of the hierarchy, the categorization is based on the lowest level input
that is significant to the fair value measurement. Assets and liabilities valued at fair value
are categorized based on the inputs to the valuation techniques as follows:

(10)



Fair Value Measurement (Continued)
Level 1 – Financial assets and liabilities are valued using inputs that are
unadjusted quoted prices in active markets accessible at the measurement date
of identical financial assets and liabilities. The inputs include those traded on an
active exchange, such as the New York Stock Exchange, as well as U.S.
Treasury and other U.S. government and agency mortgage-backed securities that
are traded by dealers or brokers in active over-the-counter markets.
Level 2 – Financial assets and liabilities are valued using inputs and quoted prices
for similar assets, or inputs that are observable, either directly or indirectly for
substantially the full term through corroboration with observable market data.
Level 2 includes private collateralized mortgage obligations, municipal bonds, and
corporate debt securities.
Level 3 – Financial assets and liabilities are valued using pricing inputs which are
unobservable for the asset or inputs that reflect the reporting entity’s own
assumptions about the assumptions market participants would use in pricing the
asset. Level 3 includes private equity, venture capital, hedge funds and real
estate.

Subsequent to initial recognition, the Company may remeasure the carrying value of assets
and liabilities measured on a nonrecurring basis to fair value. Adjustments to fair value
usually result when certain assets are impaired. Such assets are written down from their
carrying amounts to their fair value.

In instances where the determination of the fair value measurement is based on inputs from
different levels of the fair value hierarchy, the level in the fair value hierarchy within which
the entire fair value measurement falls is based on the lowest level input that is significant
to the fair value measurement in its entirety.

Inventories
Inventories consist of construction materials and supplies that have not been assigned and
charged to specific contracts and are stated at the lower of cost (first-in, first-out) or market.

Property and Equipment
Property and equipment are carried at cost, less accumulated depreciation. The Company
depreciates property and equipment using the straight-line method over the estimated lives
of the assets. The estimated useful lives are as follows:

Buildings 30 Years
Equipment 5-10 Years
Vehicles 5-7 Years
Office Equipment 3-10 Years

(11)



Long-Lived Assets
Long-lived assets to be held and used are tested for recoverability whenever events or
changes in circumstances indicate that the related carrying amount may not be
recoverable. When required, impairment losses on assets to be held and used are
recognized based on the excess of the asset's carrying amount over the fair value of the
asset. Certain long-lived assets to be disposed of by sale are reported at the lower of
carrying amount or fair value less cost to sell.

Income Taxes
Deferred tax assets and liabilities are recorded for future tax consequences attributable to
temporary differences between financial statement carrying amounts of assets and liabilities
and their respective tax bases. Principally, these differences relate to depreciation of property
and equipment, the allowance for uncollectible accounts receivable and certain accrued
expenses. A valuation allowance is provided when it is more likely than not that a deferred tax
asset will not be realized.

The Company adopted the income tax standard for uncertain tax positions on January 1,
2009. The provision prescribes recognition and measurement of tax positions taken or
expected to be taken on a tax return that are not certain to be realized. As a result of
implementation, the Company recognized no liability for unrecognized tax benefits. The
Company’s income tax returns for the years ending 2007-2010 are subject to review and
examination by federal and state authorities.

Subsequent Events
In preparing these financial statements, the Company has evaluated events and
transactions for potential recognition or disclosure through March 4, 2011, the date the
financial statements were available to be issued.

NOTE 2 CONTRACT ACCOUNTS RECEIVABLE AND CONTRACT CONCENTRATIONS
Contract accounts receivable consist of the following as of December 31 2010 and 2009
2010 2010 2010 2010 2010 Total Total
0 to 30 31 to 60 61 to 90 91 and over Retained 2010 2009

Completed Contracts $ 1,685,000 $ 50,000 $ 50,000 $ 25,000 $ 215,000 $ 2,025,000 $ 1,550,000
Contracts In Progress 1,100,000 10,000 25,000 25,000 165,000 1,300,000 980,000

$ 2,785,000 $ 60,000 $ 75,000 $ 50,000 $ 380,000 3,325,000 2,530,000

Other Current Noncontract Receivables 125,000 40,000
Less: Allowance for Uncollectible Accounts (100,000) (30,000)

Total $ 3,350,000 $ 2,540,000

(12)


NOTE 2 CONTRACT ACCOUNTS RECEIVABLE AND CONTRACT CONCENTRATIONS
(CONTINUED)
Contract revenues from two contracts in 2010 and one different contract in 2009, in Lee
County, Florida and Collier County, Florida, represented approximately 25% and 24%,
respectively, of total contract revenues for the years ended December 31, 2010 and 2009,
respectively. No other contracts represented greater than 10% of the total contract
revenues in 2010 and 2009. The contract accounts receivable from these contracts were
$1,166,000 and $800,000 as of December 31, 2010 and 2009, respectively.

NOTE 3 INVESTMENT SECURITIES AND OTHER COMPREHENSIVE INCOME (LOSS)

The carrying amounts of investment securities as shown in the accompanying balance
sheets and their approximate fair values at December 31 are as follows:
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
Securities Available-for-Sale:
December 31, 2010
Equity Securities $ 523,000 $ 32,000 $ - $ 555,000
U.S. Government and
Agency Securities - - - -
Total $ 523,000 $ 32,000 $ - $ 555,000

December 31, 2009
Equity Securities $ 388,000 $ 12,000 $ - $ 400,000
U.S. Government and
Agency Securities - - - -
Total $ 388,000 $ 12,000 $ - $ 400,000

Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
Securities to be Held-to-Maturity
December 31, 2010
U.S. Government and
Agency Securities $ 260,000 $ - $ - $ 260,000
State and Municipal Securities - - - -
Total $ 260,000 $ - $ - $ 260,000

December 31, 2009
U.S. Government and
Agency Securities $ 250,000 $ - $ - $ 250,000
State and Municipal Securities - - - -
Total $ 250,000 $ - $ - $ 250,000

(13)


(CONTINUED)

The following table shows the gross unrealized losses and fair value of Company's
investments with unrealized losses that are not deemed to be other-than-temporarily
impaired aggregated by investment category and length of time that individual securities
have been in a continuous unrealized loss position as of December 31.

Less than 12 Months
Fair Value Unrealized
$ - $ -
Marketable Equity Securities - -
Corporate Obligations - -
US Government Obligations
$ - $ -
Total
12 Months or Greater
Fair Value Unrealized
Marketable Equity Securities $ 555,000 $ 32,000
Corporate Obligations - -
US Government Obligations 260,000 -

Total $ 815,000 $ 32,000

Investment losses under one year old are expected to be recoverable in future periods and
are not deemed by management to be unrecoverable. Investment losses in excess of 1
year are also expected to be recoverable in future periods as market values have
recovered considerably during 2010 and the Company has the intent and ability to hold
these investments until further market recovery occurs.

The unrealized losses on the Company’s investments in U.S. Government Securities were
caused by interest rate increases. The contractual terms of these investments do not permit
the issuer to settle the securities at a price less than the amortized cost of the investment.
Because the Company has the ability and intent to hold these investments until a market
price recovery, which may be maturity, the Company does not consider these investments
to be other-than-temporarily impaired as of December 31, 2010.

(14)


(CONTINUED)

The scheduled maturities of debt securities to be held-to-maturity and securities available-
for-sale at December 31, 2010 are as follows:

Securities to be Securities
Held-to-Maturity Available-for-Sale
Amortized Fair Amortized Fair
Cost Value Cost Value
Due in One Year or Less $ - $ - $ - $ -
Due from One Year to Five Years
Due from Five to Ten Years
Due after Ten Years 260,000 260,000 523,000 555,000
Total $ 260,000 $ 260,000 $ 523,000 $ 555,000

Gross realized gains and losses on sales of securities available-for-sale are:

2010 2009
Gross Realized Gains:
Marketable Equity Securities $ - $ -

Gross Realized Losses:
Marketable Equity Securities (20,000) (10,000)

Total $ (20,000) $ (10,000)

The determination of other comprehensive income (loss) for the years ended December 31
is as follows:

2010 2009
Increase (Decrease) in Unrealized Gains (Losses)
on Securities Available-for-Sale $ 20,000 $ 6,000
Tax Benefit (Expense) (5,000) (1,000)
Net-of-Tax Amount 15,000 5,000

Reclassification Adjustment - -
Tax Benefit (Expense) - -
Net-of-Tax Amount - -

Other Comprehensive Income (Loss) $ 15,000 $ 5,000

(15)


(CONTINUED)

The Company uses fair value measurements to record fair value adjustments to certain
assets and liabilities and to determine fair value disclosures. For additional information on
how the Company measures fair value, refer to Note 1 – Summary of Significant
Accounting Policies. The following table presents the fair value hierarchy for the balances
of the assets of the Company measured at fair value on a recurring basis as of December
31, 2010 and 2009.

2010
Level 1 Level 2 Level 3 Total
Securities Available for Sale:
Equity Securities $ 555,000 $ - $ - $ 555,000
Securities Held to Maturity:
U.S. Government and Agency
Securities - 260,000 - $ 260,000
$ 555,000 $ 260,000 $ - $ 815,000

2009
Level 1 Level 2 Level 3 Total

Securities Available for Sale:
Equity Securities $ 400,000 $ - $ - $ 400,000
Securities Held to Maturity:
U.S. Government and Agency
Securities - 250,000 - $ 250,000
$ 400,000 $ 250,000 $ - $ 650,000

NOTE 4 COSTS, ESTIMATED EARNINGS AND BILLINGS ON CONTRACTS IN PROCESS

2010 2009
Costs Incurred on Uncompleted Projects $ 3,550,000 $ 2,850,000
Estimated Gross Profit 400,000 240,000
Contract Revenues Earned 3,950,000 3,090,000
Less: Billings to Date 3,850,000 2,810,000
Total $ 100,000 $ 280,000

Reported in the accompanying balance sheets as follows:

2010 2009
Costs and Estimated Earnings in Excess of
Billings on Uncompleted Contracts $ 550,000 $ 400,000
Earnings on Uncompleted Contracts (450,000) (120,000)
Total $ 100,000 $ 280,000

(16)


NOTE 5 BACKLOG

The Company's backlog on signed contracts as of December 31, 2010 and 2009 is as
follows:

2010 2009
Contract Revenues:
Backlog Balance, Beginning of Year $ 4,500,000 $ 2,000,000
New Contracts and Contract Adjustments 21,200,000 15,000,000
Contract Revenue Earned (18,500,000) (12,500,000)
Backlog Balance, End of Year $ 7,200,000 $ 4,500,000

Contract Costs:
Backlog Balance, Beginning of Year $ 3,980,000 $ 1,720,000
New Contracts and Contract Adjustments 18,770,885 13,310,000
Cost of Contract Revenues (16,280,000) (11,050,000)
Backlog Balance, End of Year $ 6,470,885 $ 3,980,000

The Company has additional contract revenue backlog of $93,000 with associated costs of
$65,000 on one contract signed and contract revenue backlog of $8,600,000 with
associated costs of $7,480,000 on one contract awarded, but not signed, during the period
January 1, 2011 through March 4, 2011.

As of December 31, 2010 and 2009, contract costs of approximately $655,000 and
$850,000 included in the above cost backlog are for subcontractors.

(17)


NOTE 6 JOINT VENTURE

On June 30, 2008, the Company entered into a 40% interest joint venture with ABC
Contractor on the Metropolitan Industrial Complex in Charlotte County, Florida. The joint
venture is recorded on the equity basis and at December 31, 2010 and 2009, the balance
consisted of the original investment of $40,000 plus unremitted joint venture income.
Summary financial data of the joint venture is as follows:
2010 2009
ASSETS

Cash $ 45,000 $ 30,000
Contract Receivables - Current Billings 126,500 90,000
Contract Retainage 25,000 5,000
Costs and Estimated Earnings in Excess of
Billings on Uncompleted Contracts 1,000 5,000
Total Assets $ 197,500 $ 130,000

LIABILITIES AND PARTNERS' EQUITY

Accounts Payable - Regular $ 10,000 $ 5,000
Accounts Payable - Retainage - -
Total Liabilities 10,000 5,000

Partners' Equity
Sample Contracting Company, Inc 75,000 50,000
ABC Contractor 112,500 75,000
Total Partners' Equity 187,500 125,000

Total Liabilities and Partners' Equity $ 197,500 $ 130,000

OPERATIONS

Contract Revenues $ 300,000 $ 200,000
Contract Costs 167,500 140,000
Gross Profit 132,500 60,000
Non-Contract Expenses 45,000 35,000
Net Income $ 87,500 $ 25,000

The contract has been completed in January 2011. The joint venture anticipates the
investment will be distributed to the partners in mid-2011.

(18)


NOTE 7 NOTES PAYABLE - BANK

The Company has a bank line of credit available through May 1, 2011 for maximum working
capital borrowings of $2,000,000. The borrowings are secured by inventories, accounts
receivable, general intangibles and property and equipment. The interest rate is 1.0% over
Prime. The Company's stockholders have personally guaranteed the borrowings. The line
of credit agreement contains covenants related to certain financial ratios.

Payable to: Security 2010 2009

$2,000,000 Renewable Line of Credit
to Bank. Monthly Installments of
Interest Only at Prime Plus 1.0%
(Which Was 6.3% at December 31, Accounts
2010). Includes Various Financial Receivable,
Covenants Which Were in Inventory,
Compliance at December 31, 2010. Property and
Renews 5/2011 Equipment $ 776,000 $ 1,085,000

Installment Note, Bank, Interest at
Prime Plus 1.5%; Monthly Principal
Installments of $5,500 Plus Interest Certain
through June 2012 Equipment 297,000 -

Mortgage Note - Bank, 9% Interest;
Monthly Principal and Interest
Installments of $2,433 through Mortgage on
December 2014 Real Estate 117,000 135,000

Total 1,190,000 1,220,000

Less: Current Maturities of Long-Term Debt 783,000 917,000

Long-Term Debt, Net of Current Maturities $ 407,000 $ 303,000

The shareholders have personally guaranteed the above borrowings.

Maturity requirements on long-term debt as of December 31, 2010 are as follows:

Year Ending December 31, Amount
2011 $ 783,000
2012 165,800
2013 89,300
2014 91,400
2015 60,500
Total $ 1,190,000

(19)


NOTE 8 OPERATING LEASE AGREEMENTS

The Company leases office facilities from a shareholder under a noncancelable operating
lease. The lease is for five years with an option to renew under the same terms for an
additional five years. Total rent expense under this operating lease was $36,000 for 2010
and 2009. Future minimum rent commitments under this facility lease are as follows:

Year Ending December 31, Amount
2011 $ 36,000
2012 36,000
2013 6,000
Total $ 78,000

The Company rents certain construction equipment for specific construction contracts
under short-term rental arrangements. Rent expense under these operating leases was
$625,000 and $565,000 for the years ended December 31, 2010 and 2009, respectively.

NOTE 9 INCOME TAXES

The provision for income taxes for the years ended December 31, 2010 and 2009 consists
of the following:

2010 2009
Current:
Federal $ 211,000 $ 42,000
States 62,000 13,000
Deferred 42,000 5,000
Total Provision for Income Taxes $ 315,000 $ 60,000

The income tax provision differs from the amount of income tax determined by applying the
U.S. federal income tax rate of 34% to pretax income for the years ended December 31,
2010 due to the following:

2010 2009
Tax Expense of 34% $ 263,500 $ 57,700
Increase (Decrease) in Income Taxes Resulting from:
Benefit of Income Taxed at Lower Rates - (6,000)
Tax Credits (4,000) (2,000)
Nondeductible Expenses 8,500 1,100
State Income Taxes, Net of Federal Tax Benefit 47,000 9,200
Valuation Allowance - -
Total $ 315,000 $ 60,000

(20)


NOTE 9 INCOME TAXES (CONTINUED)

The components of the deferred income tax asset and liability as of December 31, 2010
and 2009 are as follows:

2010 2009
Deferred Income Tax Liability:
Property and Equipment $ 100,000 $ 50,000

Deferred Tax Asset, Net:
Allowance for Uncollectible Accounts
Receivable, Deferred Tax Asset $ 40,000 $ 14,000
Accrued Expenses, Deferred Tax Liability (18,000) -
Net Unrealized Appreciation on Securities
Available-for-Sale, Deferred Tax Liabilities (7,000) (2,000)
Deferred Tax Asset, Net $ 15,000 $ 12,000

NOTE 10 QUALIFIED RETIREMENT PLAN

The Company has adopted a profit sharing plan for non-union employees meeting the
eligibility requirements. Contributions to the Plan are at the discretion of the Company's
Board of Directors. Contribution expense for the years ended December 31, 2010 and 2009
was $50,000 and $40,000, respectively.

NOTE 11 BUY-SELL AGREEMENT

The stockholders and the Company have a buy-sell agreement. In the event of a
stockholder’s death, the Company has the option to redeem the applicable shares of
common stock at a price determined under the terms of the agreement. The Company
carries $1,000,000 of life insurance on each stockholder to partially or completely fund this
agreement. Any remaining balance is to be paid in five equal annual installments with
interest at 8%.

NOTE 12 RELATED PARTY TRANSACTIONS

The Company has made advances to officers of $20,000 and $50,000 in 2010 and 2009,
respectively. These advances are unsecured and bear interest at prime. Interest income
was $5,000 and $4,000 for the years 2010 and 2009, respectively.

(21)


NOTE 13 COMMITMENTS AND CONTINGENCIES

The Company maintains and pays certain of its insurance under retrospective insurance
policies. As of December 31, 2010, the Company has an outstanding irrevocable letter of
credit expiring December 31, 2011, of $500,000 issued in favor of the Company's workers
compensation insurance carrier.

The Company is a defendant on claims relating to matters arising in the ordinary course of
their construction business. Certain of the claims are insured but subject to varying
deductibles and certain of the claims are uninsured. The amount of liability, if any, from the
claims cannot be determined with certainty, however, management is of the opinion that the
outcome of the claims will not have a material adverse impact on the Company’s financial
position.

A claim for $180,000 has been filed against the Company and its bonding company arising
out of the failure of a subcontractor of the Company to pay its suppliers. In the opinion of
counsel and management, the outcome of this claim will not have a material effect on the
Company's financial position, results of operations or cash flows.

The Company has commitments for purchases of equipment at December 31, 2010 of
$120,000.

.

(22)

SCHEDULE OF EARNINGS FROM CONTRACTS PERFORMED DURING 2010

Contract Cost Of
Revenues Contract Gross
Earned Revenues Profit

Contracts Completed
During 2010 $ 14,550,000 $ 12,730,000 $ 1,820,000
Contracts In Progress
At Year End 3,950,000 3,550,000 400,000

$ 18,500,000 $ 16,280,000 $ 2,220,000

(23)

SCHEDULE OF CONTRACTS COMPLETED DURING 2010

Contract Totals Before January 1, 2010 Year Ended December 31, 2010

Contract Cost of Gross Contract Cost of Gross Contract Cost of Gross
Job # Contract Revenues Contract Profit Revenues Contract Profit Revenues Contract Profit
Earned Revenues Earned Revenues Earned Revenues
1 Completed Job $ 10,000,000 $ 8,000,000 $ 2,000,000 $ 5,000,000 $ 4,000,000 $ 1,000,000 $ 5,000,000 $ 4,000,000 $ 1,000,000
2 Completed Job 5,000,000 4,730,000 270,000 - - - 5,000,000 4,730,000 270,000
3 Completed Job 4,550,000 4,000,000 550,000 - - - 4,550,000 4,000,000 550,000

$ 19,550,000 $ 16,730,000 $ 2,820,000 $ 5,000,000 $ 4,000,000 $ 1,000,000 $ 14,550,000 $ 12,730,000 $ 1,820,000

(24)

SCHEDULE CONTRACTS IN PROGRESS AT DECEMBER 31, 2010

Year Ended December 31, 2010 At December 31, 2010

Cost & Billings
Estimated In Excess
Total Estimated Contract Cost of Earnings In Of Cost &
Contract Estimated Gross Revenues Contract Gross Billings Excess Of Estimated
Job # Contract Price Cost Profit Earned Revenues Profit To Date Billings Earnings

4 Underbilled Job $ 7,850,000 $ 7,056,885 $ 793,115 $ 2,780,972 $ 2,500,000 $ 280,972 $ 2,230,972 $ 550,000 $ -
5 Overbilled Job 3,300,000 2,964,000 336,000 1,169,028 1,050,000 119,028 1,619,028 - 450,000

$ 11,150,000 $ 10,020,885 $ 1,129,115 $ 3,950,000 $ 3,550,000 $ 400,000 $ 3,850,000 $ 550,000 $ 450,000

(25)

SCHEDULE OF COST OF CONTRACT REVENUES
AND GENERAL AND ADMINISTRATIVE EXPENSE

2010 2009
AMOUNT PERCENT AMOUNT PERCENT

COST OF CONTRACT REVENUES
Materials $ 5,250,000 28.4 % $ 4,500,000 36.0 %
Labor 4,625,000 25.0 3,000,000 24.0
Subcontract Expense 3,325,000 18.0 1,236,000 9.9
Employee Benefits 1,295,000 7.0 810,000 6.5
Payroll Taxes 465,000 2.5 310,000 2.5
Equipment Rental 625,000 3.4 565,000 4.5
Gas, Fuel, Oil 375,000 2.0 354,000 2.8
Depreciation 320,000 1.7 275,000 2.2
Total Contract Costs $ 16,280,000 88.0 % $ 11,050,000 88.4 %

GENERAL AND ADMINISTRATIVE
EXPENSE
Salaries and Wages, Office $ 768,000 4.2 % $ 646,000 5.2 %
Payroll Taxes 40,000 0.2 39,000 0.3
Employee Benefits 75,000 0.4 70,000 0.6
Retirement Plan Contribution 50,000 0.3 40,000 0.3
Office Facilities Expense 300,000 1.6 300,000 2.4
Office Supplies and Expense 7,000 0.0 5,000 0.0
Provision for Uncollectible Accounts 70,000 0.4 10,000 0.1
Depreciation 30,000 0.2 25,000 0.2
Total General and
Administrative Expense $ 1,340,000 7.2 % $ 1,135,000 9.1 %

(26)

SAMPLE S-CORP CONTRACTING COMPANY, INC.


Income Taxes
The Company elected to be taxed as an S Corporation for federal and state income tax
purposes and, therefore, is not taxed as a separate entity. As such, the Company’s taxable
income or loss is included in the stockholders’ individual income tax return, based on their
stock ownership. Therefore, no provision for income taxes related to the Company’s
income is included in the financial statements.
The Company adopted the income tax standard for uncertain tax positions, on January 1,
2009. There was no impact to the Company's financial statements as a result of the
implementation. The Company’s income tax returns are subject to review and examination
by federal and state authorities. The tax returns for the years 2007 to 2010 are open to
examination by federal and state authorities.

The Company recognizes income from long-term construction contracts on the percentage-
of-completion method for financial statement purposes and on the completed contract
method for tax reporting purposes. The Company’s S Corporation income tax return
depreciates property and equipment using accelerated lives and methods of depreciation.
The depreciation, certain leasehold improvements, and differences in the recognition of
profit on uncompleted contract are allowed as expenses and income in different years. The
cumulative amounts of these differences between tax and financial statement methods of
accounting are summarized as follows as of December 31, 2010 and 2009:

2010 2009
Retained Earnings, Accompanying Financial Statements $ 2,050,000 $ 1,590,000
Difference Between Book and Tax Regular Accounting Method (13,426) (50,072)
Difference Between Book and Tax Long Term Contract Method (247,476) (79,872)
Net Fixed Asset Value Difference for Tax Purposes (197,433) (149,060)

Tax Return Accumulated Retained Income $ 1,591,665 $ 1,310,996

It is expected that there will not be a 2011 distribution to the shareholder to fund the 2010
Corporation income tax liability. The anticipated shareholder Federal tax liability on
deferred items at December 31, 2010 is approximately $160,000.

Subsequent Events
In preparing these financial statements, the Company has evaluated events and
transactions for potential recognition or disclosure through March 4, 2011, the date on
which the financial statements were available to be issued.

(9)

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