Key Performance Indicators: Navigating Success in the Construction Industry

In today’s environment, construction companies face numerous challenges, from labor shortages to fluctuating material costs. To thrive in this competitive landscape, tracking and analyzing Key Performance Indicators (KPIs) is crucial. These quantifiable measures offer invaluable insights into a company’s performance, helping leaders make informed decisions and steer their organizations toward success.

KPIs are a compass for construction businesses, providing clarity, fostering improvement, ensuring accountability, facilitating communication, maintaining focus, and enhancing efficiency. By regularly reviewing KPIs and benchmarking data, companies can:

  1. Establish clear strategies for success
  2. Monitor progress toward goals
  3. Hold teams accountable to specific objectives
  4. Create an everyday basis for discussions
  5. Determine what truly matters to the organization
  6. Enhance overall productivity

In an industry where margins can be tight and risks high, the ability to track and respond to KPIs can make the difference between thriving and merely surviving.

Essential KPIs for Construction Companies

Profitability Ratios:

  1. Return on Assets (ROA): This ratio indicates the profit generated by total assets employed. A benchmark of >10% is generally considered good.
  2. Return on Equity (ROE): Reflecting stockholders’ return on investment; a healthy ROE is typically >20%.
  3. Gross Profit Margin: While benchmarks vary by industry segment and location, this ratio is crucial for assessing operational efficiency.
  4. Net Profit Margin: Like gross profit margin, this varies widely but is essential for understanding overall profitability.

Liquidity Ratios:

  1. Current Ratio: A benchmark of >1.1 indicates a company’s ability to meet short-term obligations.
  2. Quick Ratio: A more stringent measure of liquidity, with a benchmark of >1.0.
  3. Working Capital Turnover: This ratio should ideally be <30, as higher numbers may indicate a need for increased working capital.

Leverage Ratios:

  1. Debt-to-Equity Ratio: Generally, a ratio of <3.0 is considered acceptable.
  2. Equity to G&A Expenses: A ratio of >1.0 is typically desired.
  3. Fixed Asset Ratio: Should be <1.0 to ensure sufficient funds for current operations.
  4. Underbillings to Equity: A ratio of <30% is considered acceptable.
  5. Backlog to Equity: Generally, a ratio of <20 is preferred.
  6. Revenue to Equity: A ratio of <15 is typically regarded as acceptable.

Recent Trends and Challenges

The construction industry advisors at Grassi study these KPIs on a regular basis, and have observed significant shifts in recent years, including:

  • Liquidity challenges: Current and quick ratios have deteriorated since 2020, partly due to the end of PPP and ERC programs and inefficiencies from COVID protocol compliance.
  • Working capital pressure: The working capital turnover ratio has steadily declined over the past five years, indicating longer payment cycles and project timelines.
  • Leverage fluctuations: While debt-to-equity ratios improved in 2021 and 2022, underbillings to equity increased due to pending change orders and billing challenges.
  • Backlog concerns: The backlog-to-equity ratio has trended upward, potentially straining liquidity in an environment of slower collections and higher costs.

Financial Statement Red Flags

Construction companies and their strategic partners should be vigilant for warning signs in their financial statements, including:

  • Recurring operating losses
  • Working capital deficiencies
  • Negative cash flows from operations
  • Significant over-90-day contract receivable balances
  • Growing underbillings on projects not being recovered
  • Consistent gross profit fades on projects
  • Inability to remit payroll taxes and union dues

External factors such as legal proceedings, losing key customers or suppliers, and highly competitive bidding environments can also signal potential financial difficulties.

Navigating the Future

Companies must adapt their KPI tracking and analysis as the construction industry evolves to remain competitive. Emerging trends such as sustainable construction, technological integration, and changing labor markets will likely influence the KPIs most relevant in the coming years.

By maintaining a keen focus on financial health through careful monitoring of KPIs, construction companies and general contractors can position themselves to weather economic uncertainties, capitalize on growth opportunities, and build a foundation for long-term success. In an industry where the landscape is constantly shifting, the ability to interpret and act on key performance indicators may be the defining factor between industry leaders and those left behind.

Download Grassi’s 2024 Construction and Architecture & Engineering Industry Survey for a deeper dive into these KPIs and trends, and position your firm for a successful year ahead.

Carl Oliveri Carl Oliveri is the Construction Practice Leader and a partner at Grassi. He has over 25 years of experience advising owners and executives in the Construction industry, particularly in project-centric and companywide financial modeling, operational strategy development, financial statement accounting services and income tax method analysis. This extensive industry experience allows him to provide insight and advice to construction clients on marketplace trends and... Read full bio

Categories: Advisory