It is not just important but necessary to keep a regular check on the financial health of your business. You define certain key performance indicators (KPIs) to measure performance and take corrective actions in business strategy wherever required. It gives you a holistic view of your business operations.
Our expert team of accountants has enlisted such indicators to assess financial performance in various areas of your organization. It will help you analyze and grow your business exponentially.
Gross profit margin
This factor tells you whether the price of your product/goods is fundamentally right or not. Gross profit margin is the overall profit you gain without covering up all the fixed
operations cost. Hence, better margins equal better profits.
Here’s the simple formula to calculate Gross profit margin:
Gross profit margin = (revenue – the cost of goods sold)/revenue
It sounds like the primary reason for your business. Doesn’t it? This is what you have ultimately after paying all your bills. Simply put, deduct your total expenses from the total revenue to calculate your net profit.
Let’s assume, your total billing is $2, 00,000 and your monthly rent, employee salaries, and other fixed cost expense collectively adds up to $1, 20,000. Your net profit is $80,000.
Debt asset ratio
The Debt asset ratio is your assets financed with debt. It is, in other words, telling you the financial leverage used in your business.
The higher ratio indicates financial risk, so as a business owner, you should have a proper mix of shareholders’ funds and debt wisely. This is a critical KPI to determine the credibility of your business in the eyes of investors as well as customers.
It is the capital; a business needs to run its day to day activities. Working capital is the liquidity available for on-going business operations.
Working capital = Current assets – Current liabilities
The optimum level of working capital helps in attaining better operational efficiency. This indicator suggests you keep enough positive difference between current assets (accounts receivable, cash, etc.) and current liabilities (accounts payable, provisions, etc.) for smooth business operations.
Operating cash flow
It is essentially the amount of cash that your business produces by your regular business operations such as Sales, Purchase, etc. Your business operations must generate sufficient cash flow to be more financially independent.
Operating Cash Flow (OCF) = Operating Income (revenue – the cost of sales) + Depreciation – Taxes +/- Change in Working Capital
Positive cash flow indicates the promising future and negative cashflow signifies raising additional capital or debt in your business.
Return on equity
Return on equity (ROE) is the measurement of a company’s profitability. It represents the rate of returns, stockholders receive from their investments. It indicates the financial performance of a company about shareholders’ money.
ROE = Net Income or Profits/Shareholder’s Equity
A good ROE brings trust among shareholders and attracts other investors.
Debt to equity ratio
Debt to equity ratio is an important KPI to determine the financial accountability of your business. It is calculated looking at your total liabilities against equity.
Debt to equity = Total liabilities/Total equity
It gives you a better understanding of your capital structure. It is the financial leverage ratio to measure your company’s ability to meet short and long term obligations.
As the name suggests, a Quick ratio is the fastest way of assessing the company’s financial position. It is the company’s current ability to pay off liabilities and debts with readily available liquid assets.
It is also known as the “Acid test”. It shows the financial performance and flexibility of your company.
There is a non-stop inventory flow in and out of your warehouses. Inventory turnover represents the number of time, your company sells and replaces inventory at a specific time.
Inventory turnover = Cost of inventory sold/Average inventory value
It ensures that you don’t have excessive inventory compared to your sales. It gives you vital details of your sales and production planning for better efficiency of operations.
Accounts payable turnover
Accounts payable turnover is the rate at which your business pays to its suppliers. This is an interesting KPI to figure out and prepare cash flow as well as find flow planning.
Accounts payable turnover = Total suppliers purchases/Average accounts payable
If the ratio declines, it indicates a decrease in payment frequency to suppliers which is negative signs for financial position. Delay in payments could deprive you of vendors’ early payment discounts.
Accounts receivable turnover
Accounts receivable turnover indicates the rate at which your business collects due payments. This KPI ensures that you receive funds promptly which is extremely crucial for your business. This KPI helps in cash flow planning, determine credit policy and sales discount policy.
Accounts receivable turnover = Sales/Average accounts receivable
It evaluates your credit policy, a high turnover suggests an aggressive collection policy and a low turnover suggests an inadequate inflow of funds.
Evaluating financial performance is an essential part of any business. It will significantly contribute to your long term success. We hope these 11 financial KPIs help you measure your business growth as well as prepare budgets and business strategy. For any financial queries or consultation, CapActix would be happy to assist. Write to us at [email protected] or call us on +1 201-778-0509.