We are wrapping up our construction series today with our third episode in this series, and focusing today on construction industry metrics and KPIs (Key Performance Indicators). Katina Peters, vCFO and Partner at PJS & Co CPAs, has gained extensive experience over 17 years in working with owners in the construction industry and understands the unique challenges for construction business owners. We discuss why they’re important, where to find them and how you can leverage them in your own business.
What we cover in this episode:
- 02:42 – Why do industry metrics matter?
- 08:16 – How and where do I get the information?
- 11:36 – Research of industry trends
- 18:25 – Educating yourself for strategic analysis
- 20:48 – Metrics for Non-Residential Building Construction Industry
Why do industry metrics matter in construction?
Construction industry metrics are important for several different reasons. As vCFOs, we talk about more than just your financial statements. Managing your business well from a big picture view is a topic we cover regularly, in addition to making money and profits. One of the ways to know if you are managing your company well is to compare and measure your company to other companies in your industry. For example, you can look at whether you are spending too much money on materials compared to other companies, as well as compare your profitability. Does your profitability measure up to what others are doing within your industry? Reviewing these metrics can give an excellent benchmark for where you stand.
Another important reason to review metrics is for financing. If you are working with banks and trying to secure loans to buy equipment, etc.., they will be looking at those industry metrics. How does your balance sheet compare? What do your liabilities look like compared to your equity? The banks will be looking at all of these things when making financing decisions.
While it’s important for bankers to review metrics, it’s also beneficial to review for your own business evaluation and discussions around business value. We’ve spoken previously on the topic of knowing what your business is worth, and using industry metrics will help you know just that. Industry metrics are also valuable for a potential owner to look at when considering whether to buy the business. This type of analysis can give insights like profitability and efficiency relative to others in your industry. There are many different areas where these industry metrics are important as a business owner. These metrics are a great tool to leverage to improve growth, profitability and efficiency, but also important from the outside looking in, for banking, bonding, valuation and potential sale down the road. All of these things make industry metrics absolutely crucial to have awareness of and actively take measures to ensure you’re staying within reasonable parameters.
How and where do I get the information?
When you are looking at industry metrics, you will be comparing those to metrics within your own business, and hopefully setting goals to make strategic decisions and improvements. But what should you be looking at and where do you get the data relevant to your specific business? When we’re talking about industry metrics and industry trends, you can spend quite a bit of time on Google finding each individual percentage or data point that you need. But we’re talking about a single report that you can pull to avoid wasting 30+ hours doing research on your own, and if you’re working with an advisor, they can help get you the relevant and reliable data you need.
Our firm works with specific software that pools together data from the industry and pulls an industry-wide report with information specific to the NAICS code, a classification within the North American Industry Classification System. These codes get very specific, so depending on the type of construction you’re in, like residential, contract or commercial construction, etc., it will be specific to you, and you will want to compare your company to correct industry metrics. If you end up comparing your business to a much broader construction code, you’re probably not going to get the metrics that make sense for you and your business. So you want to make sure that you’re getting the correct data. Setting that information and those metrics side-by-side with your business information helps make for a truer, and very strong comparative analysis, and helps you see what’s going on and how things are lining up.
Research of industry trends
Along with the numbers and metrics these reports can provide, they also show industry trends. We can look at national trends, regional trends and really get a feel for the competitive landscape of the industry. In looking at the competitive landscape of the construction industry right now, we can see things that are bubbling to the surface a bit, and Advanced IT is one of the trends we are seeing. Construction companies are increasingly looking to technology to increase their productivity, so this trend doesn’t come as a surprise. Companies utilize software for managing processes from design and bidding, to procurement and project management. Technologies such as robotics, the Internet of Things (IoT), 3D printing, and autonomous vehicles are also emerging in the construction sector. In Episode #82: The Construction Series: Technology for Growth with Jason Perez, we talked about their technology and how it is revolutionary in the industry for construction business owners when it comes to equipment and job management. We encourage you to listen to that episode for more information.
Reputation and track record
It’s important in every business that you have quality controls in place to gain a good reputation and maintain a stellar track record, but especially important in the construction industry. This is an area you need to keep watching and leveraging as much as possible. Although builders typically bear much of the responsibility for cost overruns on a project, limiting risk is still a primary concern for clients investing in major construction. Companies with a record of completing projects on schedule and within budget hold a major competitive advantage when bidding for jobs. We talked about the controls that need to be in place in our first podcast episode in this construction series #81: The Construction Series: Intro and Basics of Construction Accounting. All of the topics we discuss in that episode, like job costing, budgeting, and efficient and cost effective processes, all roll into your reputation and track record as a construction company.
Another item we see coming to the forefront in construction industry metrics is service diversity. This trend has become especially important as we’ve seen the impact of the pandemic over this past year. The ability to pivot and do things quickly in order to adjust to external changes are going to help a company survive when something unforeseen comes along. The ability to serve customers in a wide range of sectors can be crucial to surviving downturns in volatile markets. You’ll want to have a strategic plan in place to plan for that rainy day in case it ever comes. Service diversity was a big metric in the industry recently because of this recent downturn.
The cyclical nature of the industry
The cyclical nature of nonresidential construction demand, along with the frequency of cost overruns and cash delays, results in uneven cash flow. This means that cash flow management is especially important within the construction industry. When you’re managing cash flow and understand the ebbs and flows within your business, these things don’t come as a surprise and you’re able to plan accordingly.
Weather, supply issues, and project challenges can cause delays, affecting receivables and the ability to pay for labor and materials. The industry average is currently running at about 60 days, which is a very long time to go without getting paid for something that you’ve done 60 days ago. Again, you’re paying for materials, labor, etc. up front, and if it takes 60 days to get the funds, you want to plan for that and do whatever you can to tighten that up as much as possible. Using these metrics to your advantage, and having a plan for payment delays, can be very helpful. You can focus on whether the invoices are being sent timely, is there a problem in the invoicing system, or find out if the invoices are actually not being paid timely. Sometimes it’s out of your control, like working with a notoriously slow payor from the start, like the government, but leveraging the knowledge you get from reviewing these metrics can make a huge difference in your business.
Working capital & average revenue per worker
We have a few other interesting metrics that we picked out of this report that we think could be helpful as a benchmark. The average working capital turnover ratio is about 16% in the industry. In addition, in the US industry, the average annual revenue per worker is more than $575,000 per worker. Knowing this information can help you plan your staffing numbers. Keep in mind, this is an average, and it does depend on your geographic region, but it’s something you can account for in your cash flow and strategic planning.
Educating yourself for strategic analysis
The whole purpose of educating yourself with these numbers and metrics is to allow you the ability to strategically analyze what is going on in your own business and potentially set some new goals. Are you meeting your goals? Are you exceeding them? Ultimately, the goal is to use the information to better position your company to grow and succeed. What should you be shooting for in the construction industry?
As we mentioned, the metrics we will be reviewing are from the non-residential building construction industry. We ran the report and are pulling the metrics based on a 5-year average. These metrics are very important to the health of your business, can point out potential cash flow problems, and can highlight areas that outside investors or bankers may be looking at for lending, etc…
Non-Residential Building Construction Industry
- Current Ratio = 2.49 This number is your current assets to your current liabilities ratio, and the industry average is 2.49. If you’re interested in learning more about ratios, we do have a few podcast episodes that could be helpful. Episode #57: The Power of Numbers: Liquidity Ratios, and Episode #58: The Power of Numbers: Profitability Ratios are great resources to revisit if you’re interested in learning more.
- COGS (Cost of Goods Sold) = 81.87% This number is a combination of your direct and indirect costs and, as we discussed in Episode #81, it is an important number to key into, and is a profit and loss percentage that you will want to pay close attention to as it folds into your profitability.
- Gross Margin = 18.13% Your gross margin is your revenues minus your cost of goods, and like your COGS, is a very important number to review and interplay with one another.
- Operating Overhead = 12.13% This number is your overhead for running a business. For example, your administrative costs, legal, accounting, rent, office supplies etc… As a non-revenue generating cost, it goes straight against your profitability, and this number is especially important to make sure you are not overspending in various areas, and you’ll want to keep this number tight.
- Net Income = 4.5% Everyone wants to look at this number, and rightfully so. This is your profitability number and reflects the money that your business is ultimately making.
- Debt to equity ratio = 2.53 This one is definitely important in your banking and financing requirements, and your general health of your business, and you’ll want to keep a very close eye on that number.
- Sales growth percentage = 11% This number is your growth from year to year, and your overall growth of your top line. The industry average is 11% but it depends on where you are in your growth cycle of your business, and having a CFO or advisor weigh in on these numbers is critical to determining if you are on the right track for your specific situation.
Just like we mention with the sales growth percentage, you want to make sure that you’re in line with the industry, but don’t dismiss the fact that your business does have unique aspects and may be in a growth stage that could alter the way these metrics impact you and your business. It is wise to work with an advisor who knows you, knows your business, knows where you’re at in your business, and knows what your goals are, etc. Your advisor should be helping you answer questions like, “What makes sense for your business?” or “Should you have a greater goal than that?” Interpreting the data is key to making sure your company measures up to industry metrics, and having a CFO or advisor who can help you understand these metrics can be a game changer for your business.
Understanding your business and how it is performing in relation to other companies in your industry is very important to your business for growth and increased profitability. The metrics and data available to owners can be overwhelming and difficult to understand, but if you can work with a CFO or advisor who will help you weed through the details, and point out the information you really need that is specific for your business, it can be an invaluable tool for you and to the overall success of your business. Please reach out to us if you would like a free discovery call and have a conversation about your business, your goals, and how we can help you grow and prosper. Our mantra for this episode is “Don’t be an Ostrich, build your business better and see how you measure up. Don’t be afraid, it can only help you! Knowledge is power, and take the time to look into these resources to get your business where you want it to be.”
Links mentioned in this episode: