5 Financial Metrics Every Small Business Should Track
As a small business owner, you need to keep track of your financial performance to make informed decisions and plan for the future. But with so many numbers and reports to look at, it can be hard to know which ones are the most important and relevant for your business.
To help you out, here are five financial metrics that every small business should track regularly and why they matter.
Revenue Growth Rate
Revenue growth rate is the percentage change in your sales over a given period of time, usually a month, a quarter, or a year. It measures how fast your business is growing and generating income from its products or services.
Revenue growth rate is calculated by subtracting the revenue of the previous period from the revenue of the current period and then dividing the result by the revenue of the previous period. For example, if your revenue was $10,000 in January and $12,000 in February, your revenue growth rate for February would be ($12,000 – $10,000) / $10,000 = 0.2 or 20%.
To improve your revenue growth rate, you need to focus on increasing your customer base, expanding your product or service offerings, raising your prices or reducing your costs.
Gross Profit Margin
Gross profit margin is the percentage of your revenue that remains after deducting the cost of goods sold (COGS), which are the direct costs associated with producing or delivering your products or services. It measures how efficiently your business uses its resources to generate income.
Gross profit margin is calculated by subtracting COGS from revenue, and then dividing the result by revenue. For example, if your revenue was $12,000 and your COGS was $8,000 in February, your gross profit margin for February would be ($12,000 – $8,000) / $12,000 = 0.33 or 33%.
Gross profit margin is a key indicator of your business’s profitability and pricing strategy. A high gross profit margin shows that your business has a strong competitive advantage, a loyal customer base or a premium product or service that allows you to charge higher prices or lower costs. A low gross profit margin shows that your business has a weak competitive position, a low customer retention rate or a commodity product or service that forces you to compete on price or incur high costs.
To improve your gross profit margin, you need to focus on increasing your revenue per customer, reducing your COGS per unit or both.
Net Profit and Net Profit Margin
Net profit is the amount of money that remains after deducting all the expenses from your revenue, including COGS, operating expenses, taxes and interest. It measures how much money your business actually makes after paying all its obligations.
Net profit is calculated by subtracting all the expenses from revenue. For example, if your revenue was $12,000 and your total expenses were $10,000 in February, your net profit for February would be $12,000 – $10,000 = $2,000.
Net profit margin is the percentage of your revenue that remains as net profit. It measures how effectively your business manages its costs and generates income.
Net profit margin is calculated by dividing net profit by revenue. For example, if your net profit was $2,000 and your revenue was $12,000 in February, your net profit margin for February would be $2,000 / $12,000 = 0.17 or 17%.
Net profit and net profit margin are key indicators of your business’s financial health and sustainability. A positive and consistent net profit and net profit margin show that your business is generating enough income to cover all its costs and grow its equity. A negative or declining net profit and net profit margin show that your business is losing money or barely breaking even.
To improve your net profit and net profit margin, you need to focus on increasing your gross profit margin, reducing your operating expenses, optimizing your tax strategy or lowering your debt.
Cash Flow
Cash flow is the amount of money that flows in and out of your business over a given period of time, usually a month or a quarter. It measures how much cash your business has available to pay its bills, invest in its growth, or save for emergencies.
Cash flow is calculated by adding up all the cash inflows and outflows from various sources, such as sales, expenses, loans, investments, and taxes. For example, if you had $5,000 in cash at the beginning of February and received $12,000 from sales and paid $10,000 in expenses, your cash flow for February would be $5,000 + $12,000 – $10,000 = $7,000.
Cash flow is a key indicator of your business’s liquidity and solvency. A positive and consistent cash flow shows that your business has enough cash to meet its current and future obligations and take advantage of new opportunities. A negative or erratic cash flow shows that your business is struggling to generate or manage its cash and may face cash flow problems or insolvency.
To improve your cash flow, you need to focus on increasing your revenue, collecting your receivables faster, paying your payables slower, reducing your inventory, managing your expenses, securing financing, or investing wisely.
Customer Acquisition Cost (CAC)
Customer acquisition cost (CAC) is the average amount of money that you spend to acquire a new customer. It measures how efficiently your business attracts and converts prospects into paying customers.
CAC is calculated by dividing the total amount of money spent on marketing and sales by the number of new customers acquired over a given period of time. For example, if you spent $1,000 on marketing and sales and acquired 100 new customers in February, your CAC for February would be $1,000 / 100 = $10.
CAC is a key indicator of your business’s growth potential and customer value. A low CAC shows that your business has a strong marketing and sales strategy, a high conversion rate, or a low-cost product or service that appeals to a large market. A high CAC shows that your business has a weak marketing and sales strategy, a low conversion rate, or a high-cost product or service that targets a niche market.
To improve your CAC, you need to focus on increasing your marketing and sales effectiveness, optimizing your conversion funnel, increasing your customer retention rate, increasing your customer referrals, or reducing your marketing and sales costs.
Conclusion
These are some of the most important financial metrics that every small business should track to measure and improve their performance. By monitoring these metrics regularly and taking action based on the insights they provide, you can make better decisions, plan for the future, and grow your business successfully.
Do you need an accountant to help you track these crucial metrics? Contact us. Our friendly team will walk you through our services.
Frequently Asked Questions
- How do you measure the financial performance of a small business?
Measuring the financial performance of a small business involves analyzing various financial statements and metrics. Common methods include evaluating the income statement, balance sheet, and cash flow statement. Key metrics like revenue growth, net profit margin, return on investment (ROI), and cash flow ratios are often used to gauge a small business’s financial health.
- What metrics do small businesses track?
Small businesses typically track a variety of metrics to assess their performance. These include revenue, gross profit margin, net profit margin, customer acquisition cost, customer lifetime value, inventory turnover, accounts receivable turnover, and employee productivity metrics. Tracking these figures helps businesses make informed decisions and identify areas for improvement.
- What are some examples of financial metrics?
Financial metrics encompass a wide range of measurements. Examples include:
- Revenue: The total income generated by the business.
- Gross Profit Margin: Percentage of revenue that exceeds the cost of goods sold.
- Net Profit Margin: The percentage of revenue that represents profit after all expenses.
- Cash Flow: The movement of money in and out of the business.
- Return on Investment (ROI): Measures the return on an investment relative to its cost.
- Debt-to-Equity Ratio: Compares a company’s debt to its equity.
- Quick Ratio: Measures a company’s ability to meet its short-term obligations with its most liquid assets.
- What is the most important KPI for a small business?
The most important Key Performance Indicator (KPI) for a small business often depends on its specific goals and industry. However, cash flow is generally considered vital. Without positive cash flow, a business may struggle to pay its bills, invest in growth, or even continue operating.
- What are the three metrics used to measure financial performance?
Three fundamental metrics used to measure financial performance are profitability, liquidity, and solvency. Profitability metrics assess the business’s ability to generate profit. Liquidity metrics measure the availability of cash to meet short-term obligations. Solvency metrics evaluate the business’s long-term financial viability and ability to cover long-term debts.
