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When Should You Consider Outsourcing Your Accounting Operations?

When Should You Consider Outsourcing Your Accounting Operations?

  • Do you spend late nights and weekends struggling to keep up with your company’s accounting records? Or worse, does this time intervene with the time spent running the operations of your business?
  • Are you unable to assess the profitability of your business or perhaps have difficulty understanding the cash requirements for the next 60, 90, or 365 days?
  • Do you feel your margins could be improved but aren’t sure how to evaluate them when looking at your financial statements?
  • Would some assistance in projecting your business operations over the next few years help you establish priorities with your employees?

If you answered yes to any of these questions, then you are in good company. Many business owners and executives feel the same way and there are ways you can get the support you need to move your business ahead.

Free Download: Discover how outsourced accounting can provide more visibility into your business

The first step is acknowledging that, although operations are the most key aspect of any business, accurate financial information is vital to making important business decisions. Having visibility into cash flow and knowing where your margins can be improved will enable you to take your company to the next level.

Now the next step is determining if hiring a full-time accounting resource to get your company’s financials in order makes sense from a cost and expertise standpoint.

  • Is there enough work for a full-time accountant? For many companies, a 40-hour a week accountant would be in excess of the time required to perform the basic accounting functions they may need, e.g., monthly close process, issuing invoices, entering and paying bills, performing payroll, etc.
  • Is there too much work for your current full-time resource? And are you asking them to do things beyond or below their skill set? This is a very common occurrence with any role in a growing business. This is a lose-lose situation for everyone involved and can lead to internal turnover.
  • What level of experience will they need to have – CFO, controller, staff accountant? If you are not in a position to support the costs of more than one accounting resource, will you hire a CFO and then over-pay them to do basic staff-level accounting? Alternatively, you could hire a staff accountant and task them with CFO responsibilities; however, both of these options can cost your company significantly and lead to ineffective decision-making.

If your company needs the resources of a complete accounting team but is not in a position to support the costs and management time of that entire, full-time team, then outsourcing your accounting functions is a very viable, flexible, and turn-key option for your business. 

Read more: 3 Ways Outsourcing Accounting Can Improve Your Business

Outsourced accounting companies such as Signature Analytics provide you with flexibility in terms of the number of hours of service to receive, provide a higher level of experience through oversight by more senior-level individuals, and ensure efficient service by experienced accountants (staff accountants through CFO level expertise). The accounting teams at outsourced accounting companies work with multiple clients so they have identified time-saving methods that allow them to complete challenging tasks in significantly less time than a typical bookkeeper.

In addition to acting as the financial arm of your business by providing the resources of a highly experienced accounting department on an outsourced basis, there are a number of other situations in which hiring an outsourced accounting company to handle your financial information might make sense for your business:

Preparing for a financial statement audit or review

Many business owners believe that a financial statement audit is a healthy process for their business and provides confidence to their investors in the financial information; however, most do not realize the resource drain that an audit can have on their business due to the significant number of requests for supporting information and the technical accounting expertise which must be applied to the financial statements. Due to independence restrictions, audit firms cannot assist in performing the accounting functions at the companies they audit and therefore must rely on management to determine proper accounting rules. These issues tend to cause significant overrun bills from the audit firm due to the inefficiencies experienced and can be extremely costly for a business. Engaging an outsourced accounting company can provide management with the peace of mind that they have a team of accounting experts – most of which have previous experience performing audits – that understand what audit firms are asking for and know how to produce that information in a timely manner.

Investors requesting financial projections

Investors love to see what the future of their capital will produce so that they can assist in both financial and operational decisions; however, many business owners do not have the expertise to prepare financial projections and therefore may provide information at a level not detailed enough for the purpose or may be missing significant costs which need to be considered. Outsourced accounting firms that provide support with cash flow management and projections have CFO-level experts who are experienced in understanding a business operation in a very timely fashion and can translate such information into the future potential results of the organization.[gap height=”10″]

Missing out on potential tax savings

When a tax provider receives your financial information they may not search into all of the accounts to find tax deductions. If transactions have been classified to incorrect accounts, tax preparers may not be aware of their existence and therefore not consider simple deductions. A simple example would be meals & entertainment expenses, often a deductible expense, in which some transactions may end up recorded in office expense categories or supplies or miscellaneous. Unless the tax preparer knows that such expenses may be improperly classified, the deduction will go unreported resulting in higher income tax. An outsourced accounting company can organize accounting information and work directly with tax professionals to help identify as many tax savings as possible.

Looking for capital investment from financial institutions

Perhaps you have a capital requirement in the near future and plan to approach different financial institutions. Providing financial information with obvious errors, inconsistencies, or lack of organization could severely impact your ability to raise capital as it may be challenging for the lenders to truly understand the results of the business without transparent financial information. When hiring an outsourced accounting company, you can be confident that the financial statements are timely and accurate. Furthermore, they will provide you with a high-level financial resource that can assist in preparing analyses of the financial information in a professional manner making the lender proposal process less arduous. These statements may be used as a resource to assist in conversations with those providing capital assistance to ensure a complete understanding of the business’s results of operations.

Free Download: Discover how outsourced accounting can provide more visibility into your business

If you think your company could benefit from outsourcing your accounting services, contact Signature Analytics for a free consultation.

 


 

Discover how outsourced accounting can provide more visibility into your business

The Importance of Cash Flow Management for Small and Mid-size Businesses

The Importance of Cash Flow Management for Small and Mid-size Businesses

“Cash is King.” We hear this phrase time and time again, but why is it so important for small and mid-size businesses? The short answer – if you run out of cash, your business fails. Seems obvious, right? However, what may not be as obvious is that being profitable is not the same thing as being cash flow positive. In fact, many businesses that show profitability within their financial statements have ended up in bankruptcy because the amount of cash coming in does not exceed the amount of cash going out.

As an example, consider a service company that just started with a new customer. In January, the company provides the service and invoices the customer on January 31st. The company recognizes the revenue from that customer in January, but probably does not collect the cash until February or March. Meanwhile the company had to pay its’ employees on January 15th and the 31st. Thus cash outflow exceeded cash inflow in January. When you multiply this scenario by hundreds of customers, or consider a month with significant customer growth, you can see how the company could run into cash flow issues.

If a company cannot balance the cash inflows with the proper cash outflows then their profits on paper or supposed net-income are meaningless. Firms must exercise good cash management otherwise they may not be able to make the investments needed to compete, or might have to pay more to borrow the money they need to function.

What the Experts Say About Cash Management

Several industry leaders and associations have all found that cash flow problems can be one of the leading causes of failure for businesses…

82% of businesses fail due to poor cash flow management / poor understanding of cash flow.
— Jessie Hagen of US Bank

Despite the fact that cash is the lifeblood of a business — the fuel that keeps the engine running — most business owners don’t truly have a handle on their cash flow. Poor cash flow management is causing more business failures today than ever before.
— Philip Campbell, author of Never Run Out of Cash (Grow & Succeed Publishing 2004)

Insufficient capital is one of the main reasons for small business failure, coupled with lack of experience, poor location, poor inventory management and over-investment in fixed assets.
— U.S. Small Business Association (SBA)

A Case Study: Importance of Monitoring & Analyzing Cash Flow

One of our clients, a media company, believed they needed a significant capital infusion to support their growth plans, but were uncertain when and how much capital would be required. So we generated a detailed five year cash flow projection to forecast and identify all the time periods in which the company’s cash balance would become negative.

Analyzing the company’s cash flow projections revealed that they would require additional capital even after reaching profitability which is actually typical for early-stage companies, or companies in a high-growth mode. The projections also revealed that the amount of capital required to remain cash flow positive was 50 percent higher than they had initially anticipated.

Knowing their true capital needs allowed the company to raise the appropriate amount of capital required to support their growth plans and, more importantly, ensured they would not run out of cash.

Read the full case study here.

Monitoring Cash Flow for Your Business

Achieving a positive cash flow does not come by chance. You have to work at it. Companies need to analyze and manage their cash flow to more effectively control the inflow and outflow of cash. The Small Business Association recommends monitoring cash flow on a monthly basis to make sure you have enough cash to cover your obligations in the coming month.

By proactively getting in front of your future cash needs, you can make the right business decisions to solidify your cash position, and establish a foundation for growth.

Read More: 10 Tips to Help Improve Your Company’s Cash Flow

 

We Can Help

The process of creating and managing to an operating cash flow budget is not intuitive or easy for most small and mid-size business owners. If you need assistance managing your company’s cash flows, developing detailed financial projections, or identifying capital requirements, contact Signature Analytics today for a free consultation.

Download our latest e-book:

What Should Small and Mid-Size Businesses Expect From Their CFO?

What Should Small and Mid-Size Businesses Expect From Their CFO?

The CFO’s role within an organization depends on several factors. These components may include the expectations coming from the CEO and board of directors, and may also vary depending on the industry, corporate strategy, and the goals of the business. A company’s size can also have a significant influence on the CFO’s role.

Below, the Signature Analytics team has outlined some general responsibilities that every business should expect from their CFO.

The Importance of Forward-Looking Financial Analysis

The foundation of any company’s accounting and finance function is to produce timely and accurate financial information for the business. The CFO oversees these accounting and finance functions, but their true value comes from the ability to provide forward-looking financial analysis. This analysis should be focused on driving additional profitability and value to the company.

Read More: Outsourced CFO Services – Benefits of a Part-Time CFO

Whether you have a full-time, part-time, or outsourced CFO, below are some examples of the forward-looking financial analysis you should expect from the CFO role:

1. Cash Management & Forecasting

Can you predict when your business will have a surplus of cash that needs to be managed or when you will have a shortage of money that requires financing?

Cash flow problems can kill businesses that might otherwise survive. Your CFO should be monitoring cash flow and analyzing cash flow projections regularly to ensure your business does not run out of cash.

2. Budgeting & Expense Control

Does your business have a budget? Do you receive an analysis comparing prior year actual, current year actual, and current-year forecast on a regular basis?

Your CFO should own the budgeting process by incorporating input from each department for the most accurate and complete projections. They should also be monitoring budgeted versus actual results on a quarterly or monthly basis and reforecasting accordingly.

Read More: How CFOs Add Value To Your Business

3. Compensation Plan Development

Is the compensation of your employees aligned with the goals of the company?

The CFO of a company should help to structure employee compensation plans that incentivize efficiency and align with the financial goals of the company.

eGuide: What Business Should Expect From Their Accounting Department

4. KPI Development & Analysis

Are you maximizing margins? Are profits analyzed by revenue stream? Are employees being utilized appropriately to maximize profitability?

KPIs (Key Performance Indicators) are different for every business. They should act as the company’s compass, and the CFO serves as the navigator.

It is the responsibility of the CFO to work with those in operations to help develop KPIs applicable to the company and support the analysis of those KPIs regularly. The CFO should be using the data from the KPIs to assess business performance in real-time. Making changes that directly improve KPIs can help build the future value of the company.

Read More: What Are Key Performance Indicators and Why Are They Important?

5. Board & Investor Communications

Are you providing valuable financial information to your Board of Directors so they can review the trends of the company’s operations and assist in making appropriate decisions? Is the information presented professionally?

Your CFO should be preparing presentations for your board members that effectively communicate the company’s financial information in an organized manner. The information should illustrate trends to visualize projections so the data can help drive business decisions.

6. Securing Financing & Raising Capital

Do you review your banking relationships regularly? Are you confident you have access to financing on the best possible terms for your business? What are the capital needs of the company now and in the future? What is the best way to meet those needs?

Your CFO should play a key role in identifying and securing investment and financing. They should identify capital requirements before approaching financial institutions and investors to ensure you raise the appropriate amount of capital required to support your growth plans.

A successful CFO should also prepare presentations of the company’s financial information, allowing potential investors or lenders to understand the data and the companies performance.

7. Tax Planning

How often are communications occurring with the company’s tax advisor to maximize all tax-related strategies?

Your CFO should maintain consistent communication with tax preparers to minimize your company’s potential tax liability.

8. Ongoing Analysis & Review

All of these responsibilities should be considered ongoing processes that are revisited on a regular pre-determined schedule and modified based on the most recent financial information available.

Furthermore, all of the results should be measurable to track the success of the performed analysis.

eGuide: What Business Should Expect From Their Accounting Department

A Solution That’s Right For You

If your CFO is providing forward-thinking analysis, they are providing infinite value to your company.

Each of the outlined goals above can help maximize profitability and value for the business, and, if managed appropriately and adequately, companies with the correct financial infrastructure can witness significant operational improvements and growth. Having this kind of efficiency will allow you to think about your business in new ways and likely uncover new possibilities for what’s next.

If your business requires any (or all) of the forward-looking financial analysis mentioned above, but you’re not in a position to hire a full-time CFO or may have a team that just needs additional support, the team of experts at Signature Analytics can help.

Our highly experienced accountants can act as your entire accounting department (CFO to staff accountant). If that solution isn’t the right fit, our team can complement your internal accounting staff, to provide the ongoing accounting support, training, and forward-looking financial analysis necessary to effectively run your company, analyze operations, and guide business decisions.

Have questions about our process? Contact us today for a free consultation.

 


 

Do you know your numbers?

Cash Basis or Accrual Basis – Which Accounting Method is Right for Your Business?

Cash Basis or Accrual Basis – Which Accounting Method is Right for Your Business?

Whether you own a small company or a large corporation it is important to maximize the value of your accounting records so you can make the most informed and appropriate decisions for your business. The accounting method your company uses can have an impact on your ability to make these financial decisions, so it is important to choose the best method for your business.

There are two primary accounting methods that companies use to track their income and expenses – cash basis or accrual basis accounting methods. Below we will review the advantages and disadvantages of each accounting method, discuss the impact they could have on your company, and assist you in evaluating which method is the most appropriate for your business.

Here are some important criteria to consider when performing this evaluation:

  1. Who are the users of the financial statements and information (management, investors, bank, tax advisors, etc.) and how will they use this financial information?
  2. What method of accounting is the company using for tax purposes?
  3. What is the vision of the company in the next 5 years?

Cash Basis Method of Accounting

With the cash basis method of accounting, transactions are accounted for based on the company’s cash inflows and outflows. For example, revenue is recorded by the company when the cash is received from customers and expenses are recorded when payments are made to vendors. Because all transactions are recorded based on the cash inflows and outflows, the company’s balance sheet will not include, or track, the accounts receivable or accounts payable. With this method, accounts receivable and accounts payable are usually tracked separately within the company’s accounting system or on the side.

Many small and start-up companies will use the cash basis accounting method because it is typically the simpler of the two methods from an accounting standpoint. At this point in a business, companies also tend to place a lower level of importance on the financial information of the company, so the cash method is sufficient for their purposes.

Accrual Basis Method of Accounting

Under the accrual basis method of accounting, transactions are accounted for when the transaction occurs or is earned, regardless of when the cash is paid or received. Income is recorded when the sale occurs and expenses are recorded when the goods or services are received.

Although it is slightly more complicated from an accounting and tax preparation standpoint, there are significant advantages for companies using the accrual accounting method. These advantages include:

  • The ability to “match” revenues and related expenses within the applicable periods so companies can appropriately analyze profitability margins.
  • Creating consistency as to when the revenues and the expenses of the company are recorded allowing for increased ease of budgeting and forecasting.
  • If the company is looking for additional financing opportunities, banks and other investors usually ask for the financial information in the accrual basis method of accounting.

In general, the accrual method of accounting provides a better picture into the financial results of the company. This allows users of the financial information to make more informed decisions, ultimately providing additional value to the company.

Which Accounting Method is Best for Your Business?

Based on the information above, let’s revisit our consideration questions to help you evaluate which method is best for your business.

1. Who are the users of the financial statements and information (management, investors, banks, tax advisors, etc.) and how will they use this financial information?

If the users of the financial information are strictly internal management and there are a limited number of transactions, the cash method may be appropriate; however, management will be limited to the financial information available when making decisions.

If the company has outside investors, bankers, or other advisors, it is highly recommended to utilize the accrual method. Not only will it provide substantially more insight and value to those users, it will also show that the company is sophisticated enough to take the next step as a company.

2. What method of accounting is the company using for tax purposes?

From a tax perspective, the accrual method MUST be used for the following companies:

  • Your company is a C corporation.
  • Your company has inventory.
  • Your gross sales revenue is greater than $5 million (there are some exceptions to this rule that you should discuss with your tax accountant).

If your company is required to report taxes on an accrual basis for any of the reasons above, then you should always account for your internal records on an accrual basis as well.

If your company does not meet the above criteria, then you have the option to report taxes on a cash or an accrual basis. Many times it is more advantageous to report taxes on a cash basis and these options should be discussed with your tax accountant. However, even if the cash method is the best option from a tax perspective, it may still be beneficial from a management perspective to use the accrual method for internal reporting purposes.

3. What is the vision of the company in the next 5 years?

If your company is small, has limited transactions, and there are no plans for growth in the future, then the cash basis method of accounting would likely be the preferred and most reasonable option.

However, if your company forecasts growth in the future, especially if you plan to have revenues in excess of $5 million, it is important to begin accounting for the company’s transactions on an accrual basis as soon as possible. This transition is essential as you prepare your company to enter into discussions with other advisors and begin seeking out potential financing opportunities. It will give your company and management credibility and allow you to make the most appropriate and informed financial decisions for your business.

Making the Transition

If your company is currently using the cash basis method of accounting and feel it may be time to transition to an accrual method, we can help. Our experienced accounting team has assisted several companies with this change – some to facilitate the growth of their business and others to provide better insight into the financial health of their company. Contact us for more information or to receive a free consultation.

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8 Things to Consider When Planning an Annual Budget for your Business

8 Things to Consider When Planning an Annual Budget for your Business

Crafting an annual budget is one of the most important financial aspects of a business, but often gets overlooked.

Business budget planning is an essential task that is frequently neglected at small and mid-size companies. So why is it so important? Well, mostly because it is a process that prepares your company to answer critical questions about what the next 12 months will look like:

  • What are you projecting sales to be next year?
  • Are you expecting margins to improve next year?
  • Do you plan to hire additional employees?
  • Will you have any significant capital expenditures soon?

These questions (and many others) are typical of investors, financial institutions, potential strategic partners, and financial buyers. Every business, regardless of size, should have the answers to these questions to be able to plan the annual operating budget accordingly.

Having a chief financial officer, or CFO, as part of your company’s C-Suite executive team can be an asset in this process.

A CFO will have access to and be up to date on the most recent financial data pertaining to the company. These resources can help the company craft its budget, as well as short and long-term financial goals. Strategic budgeting is a skill that any good CFO will have in their arsenal. It’s just a matter of working as a team to bring all the relevant information together to plan for the future.

Read more: What CEOs Need From Their CFO

If you are overwhelmed by company budgeting planning, don’t have a CFO, or don’t know where to begin, below are some tips to help you get started:

1. Consult All Departments

The annual budgeting process should not be completed behind closed doors by one member of the accounting or finance team. Instead, all the departments within the company should be part of the conversation and provide feedback, insights, and expectations for the following fiscal year.

Who should contribute to the conversation? Be sure to loop in:

  • The sales team: they can assist with realistic revenue assessments
  • The manufacturing or service team: they can advise on costs of delivery and any large purchases required to update machinery
  • The research and development team: they can discuss expected expenses as well as the timing on any new products anticipated
  • Any other departments who can add value to the conversation

It is encouraged to incorporate feedback from each department as the results are much more likely to be accurate. Therefore, project completions are possible for the upcoming fiscal year. Too often, companies that do complete the annual budget planning process estimate an overall percentage increase over the prior year’s actual income – this is something that should be avoided.

2. Estimate Revenues

Expected sales have a significant influence on costs, including employee headcount, but it can be very challenging to make projections accurately. Here are some ways to come up with the best estimate:

  • Consider the recent monthly growth rate experienced by the company and decide if it can be continued.
  • Review industry guides and other expert publications that focus on your industry.
  • Review financial information from a number of your competitors, if available.
  • Communicate with your current customers to better understand their expected needs of your product or service.
  • Discuss the expected sales with your sales department and set expectations to help determine compensation for this team.

3. Determine Expenses

Once the expected revenue figures are estimated, the focus can shift towards expenses. Here are some considerations:

  • Some costs relate directly to revenue, whether they be inventory or employee services. Typically, the gross margin of a business does not fluctuate substantially unless new products are developed, inventory prices change, or inefficiencies are identified within the manufacturing process. Use this time to challenge your employees to identify cost savings related to the delivery of products or services.
  • Other expenses are fixed costs such as rent, insurance, equipment leases, and certain other services purchased. These expenses may be easier to estimate; however, you should consider reviewing the policies in place, especially around insurance. Use this time to determine if better insurance rates are available or if different coverages would be more advantageous.
  • Employee compensation should always be established to be in line with revenues and related growth in the coming year. Many companies believe that all employees require annual raises, but if the results show a contraction in the business, then it may not be reasonable. Consider tying aspects of compensation to the growth of the company. With today’s inflationary trends, make sure you include cost of living wage increases for your employees in your budget and projections as well.
  • Along with compensation, estimating employee headcount is a critical aspect of the budgeting process. It is important to identify when you will need to hire, how long that hiring process takes, and what experience level would optimize the operations.

4. Identify Capital Expenditures

Often not considered in the budgeting process are those large or expensive purchases which are vital to the continued success of the business. These may include new computers, systems, machinery, vehicles, furniture, etc. It is essential to keep in mind that each new employee hired will likely require a certain amount of capital expenditure.

Investments in equipment or processes that are directly related to your product or service should also be considered. Will you need to purchase any new materials next year? Is there old equipment that needs to be updated? Avoiding investment in equipment can impact your output, quality, or delivery timing, which can directly impact your revenues.

5. Calculate Cash Flow

While putting together a projected income statement can feel great, it is just as important to calculate the expected cash flow of the business.

Your company may pay bills faster than customers pay theirs. You may need to purchase inventory well in advance of sales if acquisition time is significant. In cases such as these, a cash flow statement should be created using the income statement as well as AR/AP turnover rates and other metrics from the balance sheet.

Read more: These Are the Four Financial Statements You Need to Grow Your Business

6. Be Conservative

While it may seem advantageous to show investors that the company will significantly grow, it’s a possibility that results may disappoint. Even worse, business decisions may have been made using such projections (aka best guess scenarios). When in doubt, it is a good idea to be more conservative and leave some room in the projections in case of emergency, unforeseeable large expenses, or a drop in revenue and sales.

7. Start Early

Businesses should begin the annual budgeting process three to four months before the start of their fiscal year to allow sufficient time to craft a detailed estimate before the year ends. However, the annual business budget should be monitored and updated on an ongoing basis. For this reason, it’s never too late to get started.

8. Monitor, Evaluate & Reforecast

Once you complete the budgeting process, the biggest mistake you could make is to file it away only to pull it out again at the end of the following year.

A budget should be monitored monthly, or sometimes weekly for smaller companies. Budgets should be edited if circumstances change, like bringing in more fruitful accounts or losing critical customers.

If you have a CFO on your team, they can help facilitate a strategic forecasting process that extends beyond the annual budget and encompasses more of a three-year plan. This can help push your company to think about future business decisions and goals.

Furthermore, budgets should always be compared to actual results to understand why there are differences. Doing this will help monitor spending money throughout the year and help management make important decisions in relation to the business. Put these tips into action and learn how to prepare an annual budget with our in-depth guide.

We Can Help

Signature Analytics will help guide your company through the annual budgeting process. We will work with your management team to create a budget for your business and monitor that budget throughout the year.

This would include analyzing the budgeted versus actual results quarterly and helping forecast accordingly. We can also perform industry and economy reviews to assist with the forecasting process and provide benchmarking data.

If you want assistance creating (or improving) an annual budget for your business, contact us today for a free consultation.

What Fiat Can Teach Businesses About the Importance of Knowing Profit Margins

What Fiat Can Teach Businesses About the Importance of Knowing Profit Margins

“Don’t buy a Fiat 500e electric car” says the company’s chief executive, Sergio Marchionne. According to Mr. Marchionne, it has nothing to do with the quality and price of the car, but rather the cost associated with producing the car – specifically the battery – and its impact on the product’s profit margin. The chief executive admitted at a recent appearance, “I hope you don’t buy it because every time I sell one it costs me $14,000.”

As a business owner, it is easy to see if you are profitable, just take a look at your company’s net income; however, that number alone does not provide a complete picture. Fiat is a perfect example. Overall, the company is profitable; however, when you look at the profit margins for their individual products, they are actually losing money on one of their product offerings.

For a more accurate measure of how your company is doing, it is imperative to calculate your profit margins by product line.

Calculating Profit Margins

Profit margin is an accounting measure designed to calculate your profit as a percentage of sales. It can be used to evaluate your business as a whole or for each individual product line.

Why is this useful? The two main reasons are 1) to compare your profit margins on a monthly and/or yearly basis and 2) to establish your position against other companies in your industry.

To calculate gross profit margin, divide your gross profit, which is sales minus cost of goods sold, by sales.

Gross Profit Margin = Gross Profit (Sales – COGS) / Sales

Analyzing Profit Margins by Product Line to Increase Profitability

Let’s assume your company has $10,000 in sales for the month and your gross profit for that same month is $5,000. That would mean your company’s gross profit margin is 50%.

Some business owners may see these numbers and think “we’re doing great” and they might be; however, by taking a closer look at the company’s profit margins by individual product line, they may be able to identify opportunities to increase profitability even more.

Using the same example above, let’s assume that Product A generated $7,000 in sales for the month and had a gross profit of $3,000. Product B generated $3,000 in sales and had a gross profit of $2,000. In this example, the gross profit margin for Product A would be 42.9% and for Product B would be 66.7%.

Product A:
$3,000 Gross Profit / $7,000 Sales = 42.9% Gross Profit Margin

 

Product B:
$2,000 Gross Profit / $3,000 Sales = 66.7% Gross Profit Margin

Using this information, a company could consider adjusting their pricing and distribution strategies to increase their overall profits. One way to achieve this would be to increase the price or reduce the cost of goods sold for Product A to improve the gross profit margins for that product line. Alternatively, the company could adjust their promotional efforts to focus more on selling Product B since the margins are greater.

Referring back to the Fiat example, the company is unable to increase the price for their electric vehicle because the market will not bear it. They should eventually be able to reduce the manufacturing costs of the car battery, but that will take time. So for now, it seems that Fiat is taking the alternate approach and focusing their promotional efforts on their other product lines.

Improve Your Company’s Profitability

At Signature Analytics, we work with our clients’ management teams to properly identify and understand the profit margins of their business. This is accomplished by producing a detailed understanding of the cost structure and related sales price associated with each product line and revenue stream of the company. This profit analysis can also be shared with company investors and banking relationships to enhance investor relations and participation.

In addition to profit margin analysis, we can provide accurate forecasts and budgets that enable our clients to properly project EBITDA growth and allow for better cash management strategies. All of these accounting and financial reports – profit margin analysis, forecasts, and budgets – empower our clients with the financial information they need to make informed business decisions that help to increase overall margins and improve profitability.

Want to learn more about all the ways Signature Analytics can help improve your company’s profitability? Contact us for a free consultation.

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