How To Tell if Your Business is Performing

Knowing how your business is performing can be hard.  Most of us have a gut feel of how we are going but for many, that gut feel doesn’t kick in for a couple of years when we have something to compare against.  And let’s be honest with ourselves, this is isn’t the most scientific way of measuring our performance.  And perhaps you have no real clue about the longer term performance of your business (after-all, in the day-to-day it’s easy enough to keep track).

And benchmarking against other businesses is great, but it doesn’t measure everything or give us all the information we need to measure how the business is really performing.  There is a somewhat more scientific way of measuring success.

Why isn’t benchmarking the perfect indicator – let’s face it, if you’re kicking your goals your business should be performing, correct?  Benchmarking is a way of setting goals for future performance.  It’s a way of looking at our own business, comparing it to other similar businesses and using our findings to set KPIs encouraging future performance and growth.

So is there a better, or should I say, more accurate, way?  Yes, ratios.  Now for some of you the thought of ratios may conjure nightmare memories from your teenage maths years (yours truly included!).  But they are a fabulous way of measuring key areas of the business to tell you how it is performing.  No comparisons involved, just straight results based on your current numbers.

There are quite literally dozens of ratios to choose from, but my “go-to” ones for measuring cashflow success and performance are the following:

  • Current ratio – by looking at current assets and current liabilities, this ratio measures your business’ ability to meet short-term goals.
  • Quick ratio – more stringent than the current ratio but using current assets (less inventory) and current liabilities.  It measures the business’ ability to meet cash obligations which occur unexpectedly.
  • Accounts receivable turnover – this ratio measures the performance of the business’ credit control function using net credit sales and average accounts receivable.
  • Days sales outstanding – this represents the average number of days it takes to collect payment from clients or customers.  It uses accounts receivable, total sales and the number of days in the period.
  • Working capital turnover – this looks at how efficiently working capital is used to generate revenue using total revenue, current assets and current liabilities.  The higher the number, the better the use.
  • Gross profit margin – this measures how well a business retains cash to use to cover operating expenditure and generate future cashflow.  It uses gross profit and total turnover to create a percentage.
  • operating cashflow ratio – this ratio looks at the ability of the business to generate revenue from it’s core operations.  By dividing operating cashflow by total debt a business is able to see whether it can comfortably pay it’s debt obligations.

What happens if it’s not all a “good news story”?  As they are a way of measuring the overall performance of the business it stands to reason that it won’t all be a fabulous outcome.  But much like with anything, you can use the information to set targets and create relevant KPIs to get you there. 

How often should you be looking at these ratios?  Ideally as frequently as possible, but at a minimum I would suggest monthly as part of your month-end reporting pack.  Accounting software’s like Xero allow you to add certain ratios to your dashboard so they can be easily monitored every time you log in.

If you have software which doesn’t easily provide the ability to do this, requesting the information from your accountant or finance function in order for you to see and understand would be a brilliant option.  Accountants providing virtual finance operations (“VFO”) services should be including this information in the monthly report pack for you to consider. 

As uncomfortable as it might be, being aware of these matrices provide focus for you and allow you to plan for the growth of your business adequately.

Links:

Watch on YouTube

Read on Linkedin

Leave a Reply

Your email address will not be published. Required fields are marked *