Financial Ratios

While not an all-inclusive list, the following ratios are often used during benchmarking by the construction industry, which are interpreted by the Construction Financial Management Association’s Construction Industry Annual Financial Survey:

Liquidity Ratios

Liquidity ratios measure a company’s ability to repay its outstanding short-term obligations out of its short-term assets.

• Current ratio equals current assets divided by current liabilities. In the current recessed economy, banks or sureties generally require a higher current ratio to provide a cushion to withstand unexpected conditions.
• Working-capital-turnover ratio is a product of total revenues divided by working capital (the net of current assets minus current liabilities) and indicates the amount of revenue being generated by the available working capital. A ratio exceeding 30 may indicate a need for additional working capital to support future revenues.

Profitability Ratios

Profitability ratios measure a company’s ability to generate cash flows relative to various metrics during a specific period.

• Return on assets equals annual net earnings before income taxes divided by total assets. It’s displayed as a percentage, and the higher the number, the more effectively a company is converting its assets into earnings.
• Return on equity equals the annual net earnings before income taxes divided by total equity. A high ratio may indicate either undercapitalization or a very profitable company. Low returns may indicate a conservative managerial approach or substandard performance.

Leverage Ratios

Leverage ratios measure a company’s ability to meet its long-term debt obligations.

• Debt to equity equals total liabilities divided by total equity. The higher the ratio is, the greater the risk the creditors are assuming. Generally, a ratio of 3 or lower is considered acceptable.
• Revenue to equity equals annual revenue divided by total equity. A low ratio may be indicative of a conservative approach to obtaining contract work. Generally, a ratio of 15 or lower is considered acceptable.

Credit Management

Days in accounts receivable is calculated by dividing average net accounts receivable, excluding retention receivable, by annual revenues and multiplying the result by 360 days.