What gets measured, gets done. KPIs—or Key Performance Indicators—are an essential measurement tool used by successful businesses across all industries to track performance against benchmarks and achieve short- and long-term goals. For contractors, incorporating the right KPIs into your management toolkit can improve both your business and your bonding capacity.
Below are 5 essential KPIs for contractors to consider:
- Working Capital
Working capital—your current assets minus current liabilities—shows your ability to cash flow your existing backlog and demonstrates your financial capacity for new work. Contractors who maintain a healthy working capital of greater than 10% of backlog are likely to overcome a hit to their financials in the event of a project dispute. When calculating working capital, you should subtract any questionable accounts receivable, prepaid expenses, or loans to stockholders or employees to get a more accurate picture.
- Debt to Worth Ratio
Debt to worth—your total liabilities divided by total net worth—is a measurement of how leveraged your company is. Ideally, your debt to worth ratio should be less than 3:1. When a company has a high debt to worth ratio, it often indicates that the company is undercapitalized, either because all of the profits are invested personally, because the company makes little profit, or because what profits are made are distributed and spent on a high-end lifestyle. Even if a company can successfully operate at high levels with little capital, a high debt to worth ratio increases risk in the event of a downturn in company performance.
- Interest-Bearing Debt to Worth Ratio
Similar to debt to worth, this ratio measures a company’s bank debt in comparison to their net worth, including equipment loans, lines of credit, or any other third-party interest-bearing debt. There are companies at both ends of the spectrum when it comes to debt—some are very debt averse, while others feel that debt is fine as long as they have the cash flow to support it. A good middle ground is to keep your interest-bearing debt to worth ratio to less than 0.75:1. When considering new purchases, keep this ratio in mind as a boundary—if a new purchase will put you over the top, consider waiting to pay down some debt, or paying cash instead. However, it’s important to remember that any time you pay cash for a fixed asset, you lower your working capital.
- Net Profit Percentage
Establishing a baseline net profit percentage, and then trying to stay above that baseline, can help you make decisions about whether to invest in people and equipment, and whether those investments are helping you or hindering you from meeting your targets. Your own historical performance can be a good starting point, but your CPA can also give you an idea of what profit percentages similar contractors make.
- Number of Jobs with Profit Fade at Completion
By tracking the consistency of your job profits from the time you bid work through completion of the project, you can uncover issues with estimating or project management. For even more powerful insights, take it a step further and look at all of your jobs in a given year. If you see a constant trend of declining profits (even if you make money at the end), it is worth looking into what adjustments you can make to improve job performance.
These KPIs will not only provide insight into your company’s financial health, but help you make informed decisions to improve performance, meet your targets, and improve your bonding capacity. If you have any questions about incorporating KPIs into your management toolkit, leave a comment below or feel free to contact me directly, I’m happy to help!