Why I Hate KPIs
Originally published: 01.01.14 by Ruth King
Comparing KPI ratios to industry standards alone can be a risky move.
Business owners commonly use key performance indicators (KPIs) to track company performance against an industry standard. We have KPIs in the HVAC industry that calculate financial ratios, productivity ratios, the number of people in the office as compared to the field, the number of maintenance agreements a technician can handle, and many more.
Many company owners compare their financial statements only to industry KPIs. However, relying only on KPIs can be dangerous. They can give you a false sense of security.
Here’s why: The average current ratio (current assets divided by current liabilities) for the HVAC industry is 1.8. This means that, on average, a contractor has $1.80 in current assets for every $1.00 in current liabilities. Let’s say you calculate your company’s current ratio and it is 3.0. If you look at nothing else, you are setting yourself up for potential problems.
Why? Because the trend over time is more important than a single month’s KPI. Building on the current ratio example, you think: “Great. I’m above average so I don’t have to worry about anything.” However, if your current ratio was 3.4 the prior month, and the
Likewise, if your current ratio is 1.5 and you are only comparing to the HVAC industry KPI, then you might think: “I’m in trouble, my KPI is lower than the industry standard.” However, if the month before, your current ratio was 1.4 and the month before that it was 1.3, then your company is not in trouble. It is showing a positive trend.
It is the trends that are important. It is much better to compare your company’s ratios to what happened in previous months and years. The industry KPI averages are just that, averages. They don’t consider what is actually happening at your company.
For current ratio, 99% of the time, an increasing current ratio means increasing profitability. A decreasing current ratio means decreasing profitability. The contractor in the example above, with the current ratio that was over the industry KPI, has a major problem. He is losing profitability and he must find out why. If he doesn’t, and only relies on the false sense of security he gets because his KPI is above industry standard, he will soon have a cash flow problem, a productivity problem, or some other profitability problem at his company.
The other 1% of the time your current ratio decreases because you purchased or sold assets. If you purchase a truck for cash, you are trading short-term assets (cash) for long-term assets (the vehicle). Assuming that your current liabilities stay the same, your current ratio will decrease because you have less cash for operations and, as a result, a smaller current ratio than you would have if you leased the vehicle. If you purchased the truck on payments, your current ratio would also decrease because you have an increase in liabilities (a truck payment) for the same current assets.
You should take about 30 minutes each month to calculate your company’s financial and operational ratios. Just don’t compare them to the KPIs for our industry alone. Look instead at the trends. They are more important than being happy that your ratios are above industry averages or worried because they are below industry averages.
Over the next few months I will write about the 10 financial and other operating ratios that you should calculate. I will give you the HVAC KPIs for those ratios because many of you want to compare your company’s results to the industry averages. However, look at the ratio calculations for the previous months so you can see the trends.
If this is the first time you calculate the ratios, calculate the ratios for year-end 2013, 2012 and 2011. You’ll see the yearly trends rather than the monthly trends. Tracking the trends each month will help you spot minor issues before they become major crises, make better business decisions, and help your company be more profitable. These are great returns for investing less than an hour each month.
Ruth King has over 25 years of experience in the hvacr industry and has worked with contractors, distributors and manufacturers to help grow their companies and make them more profitable. She is president of HVAC Channel TV and holds a Class ll (unrestricted) contractors license in Georgia. Ruth has authored two books: The Ugly Truth about Small Business and The Ugly Truth about Managing People. Contact Ruth at email@example.com or
Articles by Ruth King
Understand Your P&L Statement: Gross Margin, pt. 2
Gross margin should not vary more than a few points each month. If it does, then you must find out why the margin is varying.
Understand Your P&L Statement: Gross Margin
Understand Your P&L Statement: Cost of Goods Sold
However you decide to categorize expenses in your P&L, it's important to be consistent.
Understand Your P&L Statement: Sales vs. Revenue
Sales are critical to survival — when revenue is actually generated is even more critical.
The 20 Percent Profit Myth
For a realistic goal, include owners’ compensation in the net profit equation.