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3 Critical Financial Ratios Small Business Owners Should Follow

There are four ways to increase income and two ways to increase profit. You can increase revenue by increasing the number of transactions per customer, increasing the average sale, increasing the number of customers, and raising prices. You can increase profits by lowering costs and/or raising prices. Remember that your income is the total of all the money you put in, and your earnings are what’s left after all expenses and taxes.

Most small business owners have an accountant or at a minimum use accounting software that can provide financial statements, balance sheets, etc. All this is fine! You don’t need to be an accountant to run your business, you do need to calculate and track certain critical criteria. Waiting until the end of your fiscal year to see where you are could be your downfall or you could have changed something you shouldn’t have done because you were more successful than you thought.

The numbers to keep a close eye on are found in the following reports: Balance Sheet, Cash Flow Statement, and your Income Statement. Your accountant creates them for you. Hire a good accountant and make sure you understand what you’re looking at and what your numbers mean. Learn how to read these reports and keep track of the critical numbers so you don’t suddenly find yourself on the brink of bankruptcy. Take bold and immediate action when necessary to continue moving toward your revenue and profit goals.

3 Critical Financial Ratios to Track:

  1. Gross Margin (also called Gross Profit) = Revenue minus direct costs.

  2. Net Income (also called Net Profit) = Income minus all expenses and taxes.

  3. Overhead to Sales and Salary to Sales ratios = Total Overhead as a percentage of your revenue and Total Salaries as a percentage of sales.

Now let’s take a look at each of these numbers to understand their importance and how they can affect your business in the short and long term. Your net profit is directly affected by your sales, the selling price, and the fixed and variable costs. Measure your financial performance regularly to get a clear picture of your financial situation before making drastic decisions.

big profit o Gross margin represents profit remaining after deducting revenue less direct costs. Gross profit is what you have left to pay for indirect overhead costs. Direct costs are the costs associated with your products and services sold. Direct costs include: cost of purchase or manufacture plus freight, customs, duties, losses, interest paid on the financed product, local delivery (if not billed separately), commissions and allowances, and direct advertising costs (if you assign a direct cost). advertising). budget directly to this article).

You net income o Net profit is your bottom line. This is the amount you have left after all expenses and taxes are deducted from your total income. Many forget to account for taxes paid. We have to pay the tax collector, so this should be counted as an expense.

If he general selling expenses wave Salaries to Sales proportions increase, find out why. Many reasons can affect these ratios. Some are temporary and acceptable. Others may indicate a bad trend. For example, if your salary-to-sales ratio goes up because you just hired a new salesperson, this is acceptable and temporary. However, if after a few months this ratio remains high, there is reason for further analysis. Did this vendor sell anything during this time? If so, do your sales cover your salary? If the answer is yes, it is an indication that sales from other sources are down. Tracking these two ratios on a monthly basis will help you keep costs reasonable and take corrective action before they spiral out of control.

“You can’t improve what you don’t measure.

Small business owners are bombarded by interruptions. Staying on top of key financial data on a regular basis is imperative. Don’t just rely on instinct or what your staff tells you. Track these numbers and more to get a clear, unbiased picture of where your business stands. Take immediate corrective action when necessary to get back on track toward your goals.

You can’t improve what you don’t measure. Manage your finances or they will manage you!

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