LUTZ BUSINESS INSIGHTS
Indicators of Your Construction Business’s Financial Health
SHAWN WEDERQUIST, AUDIT SHAREHOLDER
Regularly ‘checking in’ on your company’s financial health is an important part of your overall business strategy. Most construction company owners are extremely busy in various parts of their businesses, making it easy to lose sight of the overall picture and susceptible to financial problems. Conducting regular assessments, either internally or through an outside source such as Lutz, is an easy way to spot problems before they become crises.
Though there are many financial indicators that you should pay attention to during your assessments, we find there are four that rank near the top in terms of importance.
1. Working Capital
(Working capital is your current assets minus your current liabilities.) Bonding companies and banks place high significance on working capital. Every contractor has different working capital needs, there is no ‘right’ amount, however, lack of working capital or negative working capital will definitely make life difficult. On the flip side, some contractors have too much working capital, which indicates there may be an opportunity to distribute some money out of the business.
If you do not have enough working capital, there are a few things you can do to increase it. The first, of course, is to make more money. Profitability of your company is by far the most important factor determining your success. If you are a profitable company and still do not have enough working capital, you may need to take a look at your billing along with estimating and bidding processes, jobs fading from original estimates and overhead structure.
2. Debt to Equity Ratio
(Debt to equity is liabilities divided by stockholders/members equity.) A one to one ratio is very solid. If you’re anything over three to one debt to equity you may need to assess the need for additional equity to keep up with operational needs. If your debt to equity is becoming an issue, there are a few fixes we recommend. The first, again, is to increase your profitability. You might also consider converting short-term debt to long-term debt. Though it’s usually a good idea to pay off debts as soon as you can, in this situation it could make sense to stretch a three-year loan to a five or seven-year loan. You could finance equipment instead of buying it outright or term out a line of credit to improve your ratio as well.
3. Return on Assets “ROA”
(ROA is net income divided by average total assets.) This indicates how profitable your company is relative to its total assets. Assets can include equipment, buildings, land, accounts receivable, and cash. The higher your ROA the better off you generally are because it shows that you are effectively using your assets to increase your profitability. If your ROA is low, this indicates you have assets that are not producing and you should take a look at how to utilize them more effectively.
4. Months in Backlog
(Months in backlog is the contracts you have signed that you have not done work for yet dividend by the annual sales). As soon as a contract is signed, you have that contract amount included in your backlog. A profitable backlog is a very good indication of financial stability and the more backlog you have, the more stable your company is. Before 2008, we saw many construction businesses with over a year in backlog. After the economic crisis, that was reduced to a couple of months for many companies. We are now seeing backlogs increase as the average for a profitable and stable business.
Keeping an eye on these financial indicators is a great way to stay on top of your business and identify weak areas before they become real issues. If you have any questions on this topic or would like to speak with a Lutz professional, please contact Shawn Wederquist or Ryan Cook.
ABOUT THE AUTHOR
SHAWN WEDERQUIST + AUDIT SHAREHOLDER
Shawn Wederquist is an Audit Shareholder at Lutz with over 27 years of related experience. He performs audit, review and compilation services for a broad scope of clients including construction, wholesale, distribution, manufacturing, retail organizations and employee benefit plans.
AREAS OF FOCUS
AFFILIATIONS AND CREDENTIALS
- American Institute of Certified Public Accountants, Member
- Nebraska Society of Certified Public Accountants, Member
- Certified Public Accountant
- BSBA in Accounting, University of Nebraska, Lincoln, NE
- Madonna School, Board of Directors
- Omaha Parents Down Syndrome Network, Fundraising
- Heartland Better Business Bureau, Past Chairman
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