Monitoring the financial health of a business is crucial for success.
When you have a thorough understanding of your company’s financial position, you will be able to make better-informed decisions. However, which of the many financial figures are most critical? Here are the top ten metrics and key performance indicators (KPIs) that every small business should monitor.
1. Cash Flow
Monitoring and managing cash flow should be a priority for a small business. After all, you must ensure that you have adequate cash available to make payments and sufficient future incoming cash flow to meet your commitments. It will help you manage cash flow if you have a long and short-term cash flow forecast, and both projections must be kept up to date. Particular attention should be paid to the operational cash flow (OCF), the net cash generated from regular business activities. This figure will indicate if the business generates sufficient money to reinvest and grow.
Sales, or revenue, is the top-line income in a profit and loss account. This figure is the total income earned for products or services sold. In a business that uses the accrual accounting convention, revenue will not equal cash income because it includes credit sales in accounts receivable (AR). Daily, weekly, and monthly sales are metrics you most likely monitor now. However, there is more to be gained from sales figures than merely the headline number. A detailed analysis of sales trends will reveal seasonal fluctuations, growth rate, and which product lines are selling best.
3. Gross Profit
Gross profit, or gross income, is income less the cost of producing and selling your products. The gross profit generated from sales must be sufficient to cover overheads, drawings, or dividends for stakeholders and adequate funds for future expansion. The KPI used to track gross profit is the gross margin percentage: gross profit / by sales X 100. Monitoring the gross margin will help you manage direct costs and can be used to predict the sales income required to cover current and future overheads.
4. Break-even Point
The break-even point, derived from the gross margin percentage and total overheads, indicates the level of sales required to meet overheads. This KPI is crucial because it shows you how much you need to sell before making a net profit.
5. Accounts Receivable Aging
The aged accounts receivable report shows the amount owed by credit customers, aged by aging brackets, usually current, 30, 60, and 90 days plus. If you have a significant sum in the 60-day or over columns, you might be experiencing cash flow problems. You can use the AR days-to-pay KPI to monitor receivables, the formula for which is net credit sales / average accounts receivable x 365. This ratio demonstrates customers’ average number of days to pay their invoices. Use this KPI to monitor AR collections efficiency and estimate cash receipts from accounts receivable for cash flow forecasting.
6. Accounts Payable Aging
The accounts payable aged report will show you how much you owe vendors and when the money is due for payment. Like the aged receivables report, the aged payables report will show outstanding vendor accounts in age brackets. The payables aging will indicate how fast you are paying your bills and predict future payments for cash flow forecasting.
7. Working Capital
Working capital is current assets, including cash and accounts receivable, less current liabilities, including short-term loans, accounts payable, payroll, and taxes. The working capital metric indicates short-term liquidity and the ability to meet immediate commitments.
8. Budget Variances
Budget variances indicate how much actual income and expenditure varies from your budgeted figures. An analysis of variance would reveal if sales are falling behind projections and if costs are higher than expected. Generally, it is best to review budget variances by exception because minor differences will not significantly affect the profit. Analyzing variances can also help spot errors or omissions in the accounts.
9. Inventory Turnover
Inventory turnover is another crucial KPI to monitor for businesses that hold inventory. The KPI, the formula for which is the cost of goods sold / average value of the stock, shows how many times stock rotates in a given period. Monitoring inventory turnover will reveal if you have too much cash tied up in slow-moving inventory.
10. Net Profit
Net profit, or the bottom line, is the business’s profit after deducting all expenses. Net profit is, of course, the most important of all the financial health indicators. But it is the other KPIs that will reveal why the net profit is not as high as expected or a loss. A business can survive net losses so long as sufficient cash reserves exist. However, continued net losses indicate that urgent action is required to remedy the situation.
The Bottom Line
The above metrics and KPIs will enable business owners to assess the health of your business at a glance. Then you can drill down to the details if necessary to determine the cause of a negative variance or disappointing KPI. Taking that approach will save you time and help you monitor and manage the financial health of your business.
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Universal Funding is a nationwide invoice factoring solutions leader, supporting growth-focused businesses with scalable factoring solutions. With its invoice factoring, payroll funding, and purchase order financing services, Universal Funding provides clients with the working capital needed to grow and support their businesses without taking on new debt. Ranked as one of the nation’s top invoice factoring companies, Universal Funding provides cash flow financing for businesses all across the United States.