When it comes to Key Performance Indicators (KPIs) for A&E firms, conventional wisdom suggests that healthier businesses always have bigger numbers. While that’s generally true, there can be a lot more to metrics than just whether they’re going up or down.
What’s optimal for the size, growth stage, and market considerations for one business won’t necessarily be right for yours. Successful firms know how to interpret the nuances behind the numbers and use them to their advantage.
10 key metrics your firm should be tracking
Focusing on just one metric would be like driving a car using just the gas gauge or the speedometer as your only point of reference. These indicators work best when you evaluate them together to understand the overall financial health of your organization.
- Overhead Rate. Perhaps the most revealing measure of an A&E firm’s profitability, the overhead rate is the total of indirect (non-project related) expenses as a percentage of total direct labor costs. Overhead rates ranging from 150% to 175% of direct labor are considered within the industry norm. Lower overhead rates indicate higher overall profitability.
- Break-Even Rate. Your overhead rate plus 100% is your break-even rate. If you have an overhead rate of 150%, your break-even rate would be 250%. For illustration purposes, this means you would need gross revenue above 250% to start earning a profit. You can apply the break-even rate to your firm’s total labor cost or to the salaries of individual employees. For example, to offset a salary of $75,000 you would need gross revenue of $187,500.
- Revenue Per Employee. You get this figure by dividing the year’s total revenue by your company’s headcount. Apart from giving you a way to quantify your overall productivity, this information can help you make decisions about key hires, marketing investments and pricing adjustments.
- Employee Utilization. Total billable hours divided by total available work hours gives you your utilization rate as a percentage. Usually, the higher the better, but there could be strategic reasons not to max this out. For example, as a competitive consideration, you might want to protect some bench strength to capture a “must win” contract or to invest in strategic overhead work that will give your firm a future market advantage.
- Backlog. Also referred to as “revenue backlog,” this metric represents the total unbilled value of all your existing contracts. It can be expressed as a total dollar amount, in months, or as a dollar figure per employee. This metric must be adjusted after every invoicing cycle (which reduces or draws down the backlog) and after every new contract is booked (which adds to the backlog). The backlog target for healthy A&E firms is 100% of your total operating costs or greater.
- Gross Profit. When you take your annual revenue and subtract what it cost you to generate that revenue, the dollar amount left over is gross profit. The portion of income that you invest in operating costs, equipment purchases, business development and other routine expenses are all “levers” you can adjust to make sure you’re not losing potential profit opportunities.
- Gross Margin. To calculate your gross margin, divide gross profit by total sales. Again, the higher this percentage the better, but by itself, gross margin may not tell your whole financial health story. Strategic short-term investments in your wage bill or overhead burden could drive your gross margin down temporarily while setting you up for future success.
- Net Multiplier. This is a dollars in versus dollars out calculation. Your net multiplier is the ratio of net revenue to direct labor expense. Generally speaking, the higher your net multiplier, the more profitable, but there is a competitive element to consider as well. When you are pricing a “must win” project, you may opt to temporarily reduce your multiplier to edge out an incumbent competitor or build your firm’s resume in a strategic new vertical market. The current A&E industry multiplier target is around 2.75.
- Proposals Pending. This metric is the ratio of expected new work to your budgeted net operating revenue for the year. Your marketing team should track the dollar value of proposals out to “prospects” (where you have a 50 percent chance or better of winning) and to “suspects” (where you have less than a 50 percent chance of winning). Ideally you want prospects to be at least equal to net operating revenue and suspects running around 1.5 to 2 times net operating revenue for a combined total of 2.5 to 3 times your annual net operating revenue number.
- Days Cash on Hand. Take your operating expenses for the year and divide them by 365. That’s your “burn rate” per day. Dividing this number into your total cash on hand will tell you how long your firm can withstand an unforeseen revenue disruption. This number will have a “sweet spot” that’s right for your business. More may not be better if it means you’re not investing the right amount of cash back into the firm.
We help closely held, growth-driven firms compete in the global marketplace. Our Architecture & Engineering practice group can show you how insights from the right metrics can help you forecast where your firm is going and make more profitable long-term and short-term business decisions. We invite you to contact us for more information on KPIs.