Business Management -- Key performance indicators
Use KPIs to track the financial health of your rental business.
by Tony Tye
If you are in the rental business, it’s likely you have seen headlines like this more times than you can count.
There’s no shortage of operational and financial KPIs for the rental industry. Most are worth tracking but some can be misleading, or worse: not aligned with your business strategy.
It’s crucial to know what, specifically, “financially healthy” means for your business. For example, are you looking for long-term stability, or do you want to sell to the highest bidder in a predetermined time frame? Are you a local rental business with three branches or a national, hundred-location enterprise? Financial health can look different in each of these situations.
It’s important to look at financial health through a long-term lens. Even with a good month or a good year, are the results sustainable for the long run? Don’t make the mistake of trading future stability for short-term success.
Don’t just follow the herd
Some of the most common business metrics can be misleading if tracked inaccurately or manipulated into painting a misleading picture. Similarly, others that indicate a solid foundation are not always considered a top priority – or not even considered at all. Take the time to identify meaningful KPIs that align with your business strategy instead of just following the herd.
An excellent example is EBITDA, which is a widely used metric but it can paint a misleading picture. If you are trying to attract investors or borrow capital, then debt-to-EBITDA can help indicate that you have enough money coming in to pay bills. and it can also keep you from over-leveraging your finances. However, it’s not the ultimate KPI that it’s often painted as.
Think about where your financial health originates. Break this into three groups: customer, employee, and fleet. Take care of them and they will take care of you. This is true origin of your operation’s financial health.
First, ask if you are taking care of your customers. Happy customers drive recurring revenue, which is crucial for a healthy rental business. Consider monitoring:
Customer Attrition Rate – Customer attrition is the loss of customers over a period of time, regardless of cause. Some attrition is a normal part of the customer lifecycle. Customers will not stay indefinitely, but a low rate is an essential indicator of financial health.
Calculate it by dividing the number of customers lost during a specific timeframe by the number of customers you had at the beginning of the same timeframe. The closer to zero, the better.
Days Sales Outstanding (DSO) – Repeat business and prompt payment are crucial. Calculate your Days Sales Outstanding (DSO) by dividing average Accounts Receivable by Total Credit Sales; then multiply by the number of days in the period (e.g., 30 days in a month).
A DSO under 45 is considered optimal, although healthy rental businesses may exceed this. A 2021 Dun and Bradstreet study found that equipment rental and leasing was in the top 15 industries getting paid severely late. Generally speaking, the lower the number of days, the better.
To improve this KPI, incentivize customers to pay quickly whenever possible. For example, automate invoices and payment reminders and consider early-pay discounts for customers who pay within 10, 20, or 30 days.
Take care of your employee
If you’re not managing your people properly, your long-term financial health may not be as good as you think. Consider:
Employee Attrition – As with customers, employees don’t stay forever. Some employee churn is a good thing, but the key is determining who is leaving the organization, when they are leaving, and why.
To calculate this, divide the number of employees lost during a specific timeframe by the number of employees you had at the beginning of the same timeframe. On average, that number will be 15 to 20 percent; 10 percent is ideal. Keep in mind that some employee turnover is normal and even encouraged; zero percent is not the goal.
Improving employee attrition takes having a competitive compensation plan and career progression opportunities. These tactics can help keep employees happy and engaged.
Attrition can indicate how well you are taking care of your employees, but you also need to measure how well you are managing your investment in people, which comes to the next KPI.
Labor efficiency ratio – It is not tracked as often as other revenue-based KPIs, such as total sales revenue per employee, but it provides more value. Sales revenue numbers don’t consider the cost of goods sold; you can hit your numbers, but if your cost of goods is high, profits may be low.
Instead, compare gross profit margin to labor cost. Businesses make money from products and people. If you’re only considering the product component without human assets, you’re not getting a complete financial health picture.
To calculate, divide total labor and payroll costs against gross margin. Calculate this for each branch. In a larger company, include the cost of administrative positions, such as HR and marketing. The rental industry is less reliant on service-based revenue than other industries and as a result, a healthy rental business may have a higher labor efficiency target between 3 and 4. However, if the rental business is also a dealership, it may create a higher percentage of revenue through labor, leading to a ratio near 2 or 3.
These numbers can be improved by helping employees become more productive by eliminating repetitive work and downtime. When considering a new hire, ensure there’s enough work to sustain the added cost; but also make sure you aren’t running too lean, which can negatively impact every aspect of your business.
Take care of your assets
Average fleet age – Indicates whether you are investing appropriately into new assets. This is calculated by adding the ages of all the equipment in your fleet in months, then divide by the number of vehicles in the fleet.
A healthy target may fluctuate based on industry-wide factors, such as supply chain constraints on purchasing new inventory. The key is to keep your organization in line with the current industry average.
Fleet maintenance cost and washout rate – Most companies look at this as one number, but there are two components: preventive maintenance and fleet repairs. One being high can lower the other. A low preventive maintenance cost may bring costly future problems.
Calculate this by dividing total maintenance costs by total rental revenue for a specific period. Consider your washout rate. which measures profitability over the life of a machine and is the final calculation of total expenses (purchase price, preparation costs, carrying costs, and maintenance) vs. total income (rental income and sales price) on the disposal of an asset.
This should be identified at the purchase of your fleet, then adjusted as needed to make sure you’re getting the most out of that investment.
This KPI can be improved by meticulously following preventive maintenance schedules. Consider selling assets that cost more to maintain than the revenue they bring in.
Add it all up
These KPIs can help develop a framework for measuring the business’ financial health. At the end of the day: take care of your customers, employees and fleet, and they will take care of you. Invest in a reliable reporting structure to help collect, track, and act on these numbers, using real-time access to this data to identify problems before they derail the business. Use a strategic, big-picture approach to determine what trends are telling you, and you’ll be set up for long-term success.
Author bio: Tony Tye serves as strategic account manager for InTempo Software, with decades of experience in the heavy equipment industry.
This article originally appeared in the March-April 2022 issue of Pro Contractor Rentals magazine. ©2022 Urbain Communications LLC. All rights reserved.
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