How To Tell If Your Company Is Financially Fit
Over the past 30 years on dealing with construction companies in the accounting and finance arena, I’ve seen thousands of financial statements. Some companies have come and gone, while some continue to evolve and prosper. Of course, there are many management and operational best-practices that create an environment for success (that’s a discussion for another day). However, I often get asked about key financial indicators that are apparent for best-in-class operators. Over time, I’ve developed a number of indicators that I look at.
15 Key Financial Indicators
It’s rare that a company can meet or exceed all of these but, in general, those that are successful over the long-haul exhibit a majority of these characteristics:
- Tangible working capital of at least 7.5 percent of annual revenues
- Consider the impact of soft assets such as under-billings, prepaids, stale retainage and receivables
- Tangible equity greater than 10 percent of annual revenues
- Line of credit availability of at least 80% of net worth
- Minimal net under-billings
- Net over-billings in excess of 2 percent of annual revenues.
- Permanent job borrow of at least 10-15 percent of backlog gross profit ≈ permanent working capital
- Contract fade of less than 1 percent of annual revenues (2 percent for certain high margin specialty trades)
- Contract estimates equal to or less than historical profit
- 10 percent of the largest single contract is less than 25 percent of equity.
- Cash to overbilling ratio of at least 1.5x
- Cash in bank of at least 5 percent of annual revenues
- Good debt ratios:
- Interest bearing debt to equity of under 80 percent (less than 50 percent for non-equipment intensive contractor)
- Total liabilities to equity less than 3.0 to 1.0
- Debt service coverage of at least 1.35x
- Quality receivables:
- No claims or unapproved change orders in Accounts Receivable
- Days in receivables (excluding retainage) less than 50
- Proper retainage turnover
- Good owner prequalification controls
- Consistent selling, general and administrative expense
- Consistent income from operations
- Gross profit margin on contracts within a reasonable, narrow range
- Attention to gross profit on contract adjustment variations
- Backlog gross profit in excess of 50 percent of Selling, General and Administrative Expenses (SG&A)
If you’d like to have a more in-depth dialog about the ‘why’ regarding these indicators, give me a call at 614.314.5937 to discuss. Or email Rea & Associates to speak with a member of our construction and real estate services team.
By Doug Houser, CPA, MBA, CEPA (principal & director of construction & real estate services)
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