Senior Manager Dave Van Damme shares insights on a handful of key metrics to help business owners track financial performance. Here, he discusses revenue per employee so that business owners can better understand the relationship between revenues and costs.
Thanks for joining Clayton McKervey in a conversation on how to best analyze a company’s financial health. Clayton McKervey is a full service CPA firm focused on helping closely held growth-driven businesses compete in a global marketplace.
Today we will discuss some specific KPIs or key performance indicators that can help you track and measure company performance.
To learn more, check out the videos throughout the series.
The lever of financial ratio that I want to discuss here with you is revenue per employee. Regardless of the industry that you operate – manufacturing, professional services, retail – this one’s vital to your operations, especially because it can impact a number of business strategies and directions, such as hiring needs or how marketing dollars are directed or even proposal and billing strategies.
Let’s start off with an example involving two companies to explain this concept. Company A is a custom machine builder. They’ve got $10 million in revenues and 40 employees. Company B is an electrical engineering facility, $6 million in revenue, similar 40 employees.
Revenue per employee of the first entity, the machine builder, is $250,000. Revenue per employee of the second company, the electrical engineer, is $150,000.
How did I compute these figures? Well, I took revenue for the company as a whole and divided it by the number of employees or full-time equivalents. That’s a figure that computes approximately how much money each employee generates on average for the company as a whole.
Generally speaking, the higher the revenue per employee the better. Therefore, in my example, you could quickly say, hey, the $250,000 custom machine builder is better. If this is the first time examining this figure, though, be careful because there is more to the story than that.
The first consideration is the nature of the business. Revenue per employee varies significantly, for example, based upon the intensity of labor involved or materials and supplies in delivering your products and services.
Our first company, the custom machine builder, may inherently have a higher revenue per employee, because included in their sales figure of $10 million are pass-through costs, such as materials and supplies utilized in creating the machines.
Comparatively, the majority of the cost involved in delivering the engineering services for our second company would likely just be the engineers themselves.
Thus, the nature of the business has a big impact on how we consider and conclude on our analysis.
A second consideration is the age of the business or the stage of its lifecycle. For example, the engineering company is younger, it could possibly be hiring new employees in order to grow. And, therefore, the computed $150,000 figure is actually low compared to what it would look like once that entity matures.
Or a third very important consideration is utilization. Are employees being fully utilized and billed to jobs? Because this alone can have a significant impact on the assessment of which company is better.
Taken alone, your revenue per employee, while useful and comparing internally over time, is even more valuable when comparing against your peers.
Let’s look at it from a comparative example. We’ve got the electrical engineering company that we discussed initially with $6 million in revenue and 40 employees. But now we add a second engineering company with $9 million in revenue and 40 employees as well, which generates $225,000 of revenue per employee.
You can see that a comparison to peers is more relevant for management in order to draw conclusions and formulate strategy.
With our peer-to-peer analysis, we can begin examining, for example, is one entity more efficient with its employee base? Or are they able to generate the higher revenue per employee by delivering their services in a specific geographic area that’s just paying more for those services? Or is it an indication that your reputation is too new and unknown, and therefore an indicator that you need to educate the marketplace on your skillset in business in order to obtain higher value contracts.
Or, in looking at this analysis against peers, if you find out everything else is equal, maybe you’ve just undervalued your sales price.
As you can see, there can be multiple explanations, but the level of this analysis can only be obtained by comparison against your peers.
Of course, this ratio should not be taken alone, as it should be understood in comparison to other metrics, such as utilization and gross margin, which we’re going to explore in this video series.
To summarize, revenue per employees is a means to measure your company related to its ability to generate additional revenue compared to its personnel.
And further, this figure compared to industry peers gives you an ability to generate ideas about what levers to pull and how to change your strategy related to either how you price your products or how you spend your marketing dollars.
As mentioned, comparison against peer and industry data is critical in helping make review of these ratios more valuable.
Let us know if you found this information useful. Of course, we’re also able to help analyze your data and provide relevant insights.
We’ll also explore some other more in-depth figures in a future series, such as direct labor related revenue per employee and average billable rate, all based upon your feedback.
Let us know what you’re thinking and thanks for watching.
If you are interested in learning how data analytics can help your business, Clayton & McKervey can help. For additional information call us at 248-208-8860 or click here to contact us. We look forward to speaking with you soon.
This content was also published on the Control System Integrator Association website.