501: Key Drivers To Improve Construction Profitability And Cash Flow

This Podcast Is Episode Number 501, And It's About Key Drivers To Improve Construction Profitability And Cash Flow

Enlightened contractors like you understand the value of developing your own unique Construction Contracting System, a collection of documented repeatable processes and operation manuals. The key is continuously refining your construction company's practices and procedures.

Your office ensures your contracting company has a steady flow of projects. Proper accounting and bookkeeping develop timely financial reports to show which jobs are profitable so you can pursue more. Thus, you can focus more on the following:

Acquiring the right clients Doing the project as close to on time and budget as possible Get job deposits and timely progress payments Follow-up with clients to monitor satisfaction and line up new projects

Boost profitability by recognizing your key drivers

Identifying the key drivers of your business is critical to boosting profitability. A key 'driver' significantly impacts your specific construction business's performance.

A whole range of factors can affect the performance of every business. The secret is to focus on a handful of drivers that:

Affect the performance of your business significantly Are measurable Can be compared to a benchmark, such as last year's figures or an industry average Can be acted upon

Make use of benchmarking

Use past figures as a benchmark for current performance. Figures for last year or last quarter provide hard facts and established patterns that expose potential problems and opportunities.

Also, compare your construction business with other similar companies, especially competitors. Your accountant, bank manager, or industry association may be able to supply industry benchmarks.

What are some of the key drivers in business?

Critical drivers vary from business to business, and in construction businesses, they include:

Sales lead in capital goods or service Market share where only the biggest will survive 'First-time fix' in a maintenance business

Even direct competitors may have different drivers. A prime location is not a key driver for a floor installation business, but it is for a brick-and-mortar competitor that relies on a well-located retail store if they sell hardwood flooring and carpet and provide installation services.

Some of the following drivers might be relevant to your business:

1. Converting leads into sales

The number of leads (information requests or quotes given) provides early warning of any peaks or downturns in your sales. If you have an established leads-to-sales conversion ratio and know the size of an average sale, you can use the pace of leads to forecast sales.

Monitoring sales figures can show:

 - Which categories of products are selling well

- What each salesperson has achieved

- If lead conversion rates are improving

- Keep your costs under control

Maintaining a healthy gross profit margin is critical. If your gross margin percentage is falling, take swift corrective action. The causes could include higher input prices, a changing product mix, production inefficiencies, or excessive discounting.

If you run a service business that bills out time, it can be helpful to treat consultants' salaries as a variable rather than overhead costs because this makes it easier to work out who is making you money.

2. Collecting receivables efficiently

Your accounts receivable collection period (the number of days on average to collect customer payments) is an important driver to monitor. Try to improve your past performance and at least match the industry standard.

If the standard is 35 days, and you take 45 days on average to receive customer payments, then improve your collection activities immediately. Bill promptly and highlight overdue payments for prompt action.

The key is consistency – late payers should know that you'll unfailingly contact them.

3. Optimal inventory levels

Your inventory turnover rate is the ratio of cost-of-sales to inventory. Most businesses aim for a high inventory turnover rate because it indicates an efficient use of capital resources. If the ratio decreases, find out why.

For example, you may be overbuying or purchasing inventory you cannot sell. The more you can break down your inventory figures into separate product categories, the easier it will be to pinpoint problems.

4. Hours billed

An interior designing firm had a disappointing level of monthly sales for years until the owners realized that hours billed per consultant per week was the key driver.

Once they began monitoring this, they could see which consultants were earning the revenue. The firm could then target small and manageable improvements – such as billing 30 minutes more a day each. Attitudes changed overnight, and sales increased significantly.

5. Turning over staff

A plumbing company recognized that staff turnover was their driver. A skilled plumber with sales experience was three times more productive than a new recruit. The recruitment and training process for new salespeople also significantly burdened the business.

The plumbing company introduced a long-term incentive into salary packages to reduce staff turnover. It also introduced quarterly performance reviews.

6. Defective/Wrong goods

A painting supply and service business found that the defect ratio was a driver. Defects or wrong paint color led to goods being returned, extra time wasted on rework, delays in payment, and lower profit for the business. The company reorganized the workforce into 'quality cells,' and productivity increased significantly.

Identifying the five key drivers you need to focus on

What key factors enable your small construction business to outperform its competitors? Try to identify the five key drivers you need to focus on.

The questions you need to ask yourself are:

What drives the sales figures? What drives the costs? What drives the cash flow?

Final thoughts

By optimizing these Key Drivers, successful contractors understand how and why the construction business cycle works. Cost is what you see; the profit potential is what you don't see. High-profit construction company owners focus on both and understand that "It Takes Money To Make Money."

Next Steps: What gets measured gets managed. After learning your key drivers, it's time to understand your reports and use them to your advantage.

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Discover insightful lessons with actionable tips for your bookkeeping processes with our Five Key Performance Indicators online course. Get your reports done with our "Five At 5 For 5" approach and improved practices.

About The Author:

Sharie DeHart, QPA, is the co-founder of Business Consulting And Accounting in Lynnwood, Washington. She is the leading expert in managing outsourced construction bookkeeping and accounting services companies and cash management accounting for small construction companies across the USA. She encourages Contractors and Construction Company Owners to stay current on their tax obligations and offers insights on managing the remaining cash flow to operate and grow their construction company sales and profits so they can put more money in the bank. Call 1-800-361-1770 or sharie@fasteasyaccounting.com