Am I Running a Healthy Business? A Guide to Construction Profit Margin

Do good work, pay your team, and take home the rest. Building a profitable construction business should be simple, right?

In practice though, it’s never that easy, especially in the construction industry that is famous for its low profit margins. What’s more, many contractors aren’t able to keep a consistent pulse on their profitability, which is a big reason why 64% of construction companies don’t make it to the 10-year mark. If you aren’t in tune with where your company stands, it’s going to be hard to grow and thrive. 

Your profit margins are one of the best indicators of your business’s financial health. The higher your margins, the more profitable you are. The more profitable you are, the more you can invest back into your business. 

While there’s not a ‘magic number’ that guarantees a healthy business, we’ll walk you through what the industry standard construction profit margins look like today, along with some tips on how to improve your own numbers. 

Key Takeaways

• Your margins are some of the best indicators of your business's financial health.
• If you can consistently hit good gross profit margins on jobs (25-30%), your company’s overall profit margin will likely sit in a healthy range of around 15%. 

What is Construction Profit Margin and How Do You Calculate It?

When we talk about profit margin in business, we are referring to gross profit margin and net profit margin. These are calculated from the information on your income statement for your company as a whole which looks something like this: 

Take a look at the rows with your totals. You’ll use these to calculate profit margins. 

• Total Income (Top Line Revenue) - Total Income is the top line of the statement and represents all the money coming into the business during a specific period of time.
• Direct Costs/Cost of Goods Sold - For contractors, this means job labor costs, material costs, equipment, subcontractors, and other costs. Direct Costs are often referred to as Cost of Goods Sold.
• Gross Profit - This is the difference between total income and direct costs.
• Selling, General and Administrative (Overhead Costs) - These are all the operating costs needed to run your business or ‘overheads’ like rent, sales, marketing, estimating, phones, and trucks.
• Total Net Income (Bottom Line Revenue) - The money that’s left after you subtract direct costs and overhead expenses  from your top line revenue.

To calculate your gross profit margin: 

total income - total direct costs = total gross profit

Then

(total gross profit / Total Income) x 100 = gross profit margin %

To calculate net profit margin:

total income - total direct costs - total overhead expenses = net income

Then 

(net income / total income) x 100 = net profit margin %

Average Profit Margins Across the Construction Industry

Now that you know your gross margin and net margin, what do you do with them? 

These two numbers will give you a good picture of how healthy your company is and where you should be looking to improve. Take a look at the average gross and net profit margins by revenue bands in 2023 (source: CFMA).

Now, these are the averages across the board, but the goal is to exceed these benchmarks to build a truly stable and profitable construction business. For SMB contractors, that starts with focusing on increasing your gross profit margin to be even higher than average. Why? Because small and medium-sized contractors often face much higher overheads compared to larger contractors, and you need to offset those costs. Just take a look at the overhead averages across revenue bands. 

So what does higher-than-average look like? Most accountants and financial advisors will tell you to shoot for a gross profit margin of 25-35%. Your gross profit margin should be your north star in operational performance. Measure, manage, and improve it constantly.

How to Calculate Profit Margins on Individual Jobs

We’ve talked a lot about how your gross profit margin and net profit margin should be your gauge for evaluating your business’ health as a whole, but what do you do with them on the job level? 

On the job level, you’re going to be looking at the gross margin for that specific project. This may fluctuate across jobs based on their size how they were estimated, but ideally your jobs have similar gross margins. If they don’t you may need to take a closer look to see if there are deeper issues. 

The equation for calculating the gross profit margin on a job is: 

(total job revenue  – job costs) / total job revenue x 100= gross profit margin %

For example, you complete a job with a total revenue of $100,000. Your total costs to complete the job come in at $75,000. 

$100,000 - $75,000 leaves us with $25,000. 

$25,000/$100,000 x 100 = 25% gross profit margin on this job. That’s a pretty healthy margin! 

If there’s one thing to take away from this article, it’s this: If you can consistently maintain a gross profit margin of 25-35% on most construction projects, you’re generally going to have enough cash flow to stay profitable as a company. This is because most construction businesses don’t have an overhead percentage of more than 35%. Usually, it’s around the 20% range, which will leave you with an overall company-level profit margin of about 15% when all is said and done. 

How to Improve Your Gross Profit Margin

When you improve your gross profit margin, your net profit margin will follow, so where do you start?

1. Set Gross Profit Margin Targets - Establish clear targets for your business and consistently measure performance against them. Align bonus and commission structures with these targets to incentivize your team.
2. Align Your Team - Ensure everyone from sales, to estimating, to project management knows these targets and works towards them. Focus on finding the right type of projects that your team can execute effectively.
3. Find Ways to Reduce Overhead - Simply put, if it doesn’t directly benefit your business, don’t spend the money. No need to go without the things you need, but make sure to strike a smart balance. 
4. Accurate Estimating - Avoid taking on jobs that are larger or outside your team's expertise, as this can quickly diminish gross profit margins. Implement a process for checking estimates against historical job performance to identify outliers and potential misses.
5. Effective Project Management - Once a job is estimated properly, effective project management and field supervision are crucial to maintain profit levels.

Use job costing to measure and manage performance throughout the project and to inform future estimating strategies.

Remember, achieving high gross profit margins requires a collective team effort and a strategic approach. Get your whole team involved and on board with the goals you’ve put in place.

Wrapping Up

When managed well, your profitability shouldn’t be a guessing game. Once you get a handle on your overhead expenses, day-to-day workflows, gross margins you should have a better idea of where your business stands - so you can fuel business growth and improve your overall profit margin over time.