Every company should have a number of key indicators that are measured at consistent intervals to determine the current health of the business. While every company is unique, it has been my experience that the current state of the business can be assessed by analyzing the following indicators monthly.
- Sales Growth– Where are sales in comparison to the current forecast and previous year? Are they growing, declining, or stagnant? If they are declining, why? Any concern about the growth of sales must be addressed quickly and decisively.
- Gross Margin & Percentage– The gross margin is simply sales minus the direct costs associated with the sales of the service or product. This indicator is important for it reveals if the volume and pricing of sales is adequate to meet and exceed the fixed costs of the company.
- Net Margin or Profit– This is “the bottom line”. It is simply net profits after all sales and expenses. Reasons for net losses must be addressed quickly and with a sense of urgency or the result will be the ultimate failure of the company.
- EBITDA– This simply means earnings before interest, taxes, depreciation, and amortization. It is a measure of profits investors use to place a value on the business, the value being a multiple of EBITDA.
- Current Ratio– This is current assets divided by current liabilities and is an indicator of the company’s liquidity position. A business with a very low or significantly declining current ratio will not be in business long due to a lack of working capital.
- Cash Cycle– My definition of the cash cycle is average days to collect receivables plus average days of inventory (if any) minus average days paying accounts payable. The resulting number from the above calculation reveals the amount and number of days cash is tied up in the operating cycle of the business. It is an excellent way to determine the operating cash balance needed to operate the company.