When running your business, having the discipline to keep track of your financials might be tough, as there are 1000 other things you have to take care of on any given day. However, analyzing relevant business information is vital in order to grow your business as it enables you to see if your company is going in the right direction.
Recently, we covered some financial terms like Investor Required Return and we discussed why every entrepreneur should know about finance. Today, we will look at the most important financial metrics for your SME. They are quite simple to calculate. We promise, you don’t have to be a financial wizard, so read on fearlessly!
Sales Revenue
This is quite a broad measure, as sales include anything you sell minus returned products. When looking at your sales revenues, you should also look at the costs that you’ve made to sell these products. For example: advertising campaigns. More concrete measures are Return on Sales- which is calculated by net income before interest and tax / sales and Return on Assets- net income before interest and tax/ total assets to put the profit you make into perspective.
Revenue growth
This metric shows the potential of the business and indicates how quickly your business is likely to grow under the current conditions. Rather than taking a snapshot of your business’ revenue, you look at the growth of revenue over time. The formula for the revenue growth is rather simple: (Revenue this year)/ (revenue last year) -1.
Cost of Customer Acquisition
This metric indicates the total costs per acquired customer, and is one of the most important financial metrics from our point of view. With every activity to undertake in order to expand the number of customers, you have to to calculate how much money (and time) you’ve spent. This determines whether the money you put in Facebook ads or a marketing campaign was worth it. The CoCA is calculated by the total costs spent on customer acquisition divided by the customers acquired. Note: don’t only look at your own numbers, but consider the industry average to put your numbers into perspective.
Net Income
This is the bottom line of your financial statement and displays the profitability of the company. Net income is calculated by taking revenues and subtract all production costs, other costs, depreciation, taxes and so on. This financial metric is called burn rate when a startup’s net income is negative. However, although profit might seem to be the most important metric in this list, investors consider much more than net income only. Also gross margin and operating income (income before depreciation and taxes) say a lot about a company’s financial health. Your business might not be profitable at the current moment, but might have huge potential in for the future.
Gross Margin
The gross margin expresses the margin a company makes on each product sold and is calculated as total revenues minus the cost of goods sold (COGS), divided by total revenue. Ideally, if sales volume grows, the COGS should go down, efficiency should increase and this should result in a higher gross margin as well. Note that average gross margins differ heavily per industry, and that other costs like administrative and personnel costs need to be distracted from it. Still, it is an important measure as it gives an indication of the likelihood of a company to reach breakeven and whether prices are too low or direct costs are too high.
Salaries
We’ve included this one because salaries turn out to be the largest expense for most companies. If their salary is too low, your employee turnover will increase- employees will leave the company. On the other hand, if you pay your employees too much, this effects the profitability of your company, and motivation-related issues might arise. Your employees must feel appreciated and rewarded by their paycheck every month but the amount paid should be in line with their tasks.
A key take-away from this article is to look at things in perspective. What does a Return on Assets of 1.5 mean, if your competitors have 1.7? It is therefore crucial to compare your current results with your results a year ago, and the results of similar companies in your industry. Only then will you be able to gain full insight into the performance of your business and what your financial metrics actually mean in terms of potential.