Clear, concise and regular reporting of financial information to all the internal stakeholders of your business is a vital, yet often overlooked, component of long-term business success. These internal stakeholders can include your management team and board of directors.
Financial Reports: The Roadmap to Reaching Your Destination
When taking a family road trip, one of the first things you do is use a map to layout the journey, locate markers along the way, identify where the destination is and how long it will take to get there. Clear, concise and timely reporting of usable financial information to internal stakeholders operates like a roadmap, but for your business for role clarity.
When putting together this “roadmap” for your business and communicating that information with internal stakeholders, there are a few important things to keep in mind:
It is essential to report information on key operating metrics and not only report on items that can be interpreted from the income statement. For example, the balance sheet and statement of cash flows can also provide important information to internal stakeholders, such as: How much cash is tied up in receivables? Have you taken on new debt? What about inventory?
Ideally, your business should have some sort of stakeholder management dashboard that summarizes all these key internal and external metrics in one place. It should also include metrics and key performance indicators (KPIs) that are unique to your business effort.
Financial information and reports should not be viewed in isolation. Rather, the information should be compared to prior periods to understand influence trends.
The owners of each metric should be able to explain the results that have occurred so internal stakeholders can understand what the results actually mean. Has inventory grown because of a new product line? Has cash increased because the company is now using a line of credit? Is employees utilization lower because the company is hiring in advance of customer growth?
Communicating financial information in an organized and easy to understand method—such as using pictures and graphs instead of a list of numbers, and showing trends to help managers visualize projections—can help increase credibility with board individuals (internally or externally) and improve meeting productivity. Take a look at a recent case study.
The combination of all these will allow the CEO and other internal stakeholders to have greater confidence in their decision-making process and enable them to make those decisions based on dispassionate financial analysis rather than a “gut feeling”.
We Can Help
Presenting timely financial information in an easily digestible format is essential in communicating with internal stakeholders. If you need professional-looking reports prepared to increase your credibility and improve meeting productivity with internal stakeholders, we can help. Contact us today for a free consultation with one of our CFOs.
We have heard it again and again. This phrase seems to be the creed of the business world. There is something about assigning a number and correlating that with meaning to prove we are being successful.
Just like in sports, success is measured by the score. In business, success is measured managed by numbers. In many cases, these measurements are tracked and monitored to help management gauge the performance of the company, and these kinds of metrics are referred to as Key Performance Indicators (KPIs).
In business, many of a CFO’s responsibilities are to develop KPIs applicable to the company, regularly support the analysis of those KPIs, and driving changes that directly improve KPIs. All of these actions are done to hopefully improve the future value of the company.
The Importance Of KPIs To Business Success
Businesses are multi-faceted and so a company needs to monitor several different KPIs to provide insight into how the business is performing. Some of these measurements may be more basic, like inventory turnover. While other KPIs can be more involved, such as employee utilization or profitability by an individual client or product line.
Once KPI goals are defined, it is important to understand how those measurements can be used to enhance the performance of the business. For example, JPMorgan Chase & Co was able to reduce their fully burdened labor costs by $3.2 million annually by eliminating voice mail for consumer-bank employees.
Another great example is with one of our very own brewery clients. We were able to increase profits by 15% after adjusting their pricing and distribution strategies following a detailed analysis of their profit margins by individual product line.
It’s important to understand that knowing what to measure matters and then making operational changes to influence those measurements directly can have a significant impact on the bottom line. If you measure many things that don’t matter, you’ll end up with a ton of meaningless data.
What Are The Examples Of Key Performance Indicators?
KPIs will be different for every business. Below are some basic examples, how they can be calculated, what they measure, and the best way to use the measurement to improve profitability.
Days Sales Outstanding
(Accounts Receivable) / (Sales on Credit or Terms) x (Number of Days the Sales Represent)
This KPI measures how many days of sales are in accounts receivable. Hopefully, this measurement will be at (or near) what your credit terms are. For example, if you have credit terms of 45 days, your day’s sales outstanding should be close to that number. This KPI can be impacted by offering a slight discount for early payment to reduce outstanding accounts receivable.
(Cost of Goods Sold) / (Average Inventory) x (12 Months)
This KPI measures the number of times the inventory is sold–or the amount of turnover–in one year. An inventory turn of 1 would mean you sell all your inventory once a year, whereas an inventory turn of 12 would indicate you sell your inventory every month. This KPI is influenced by reducing slow-moving or excess inventory, or by increasing sales, which will, in turn, improve cash flow.
Days Sales in Inventory
(Average Inventory) / (Cost of Goods Sold) x (Number of Days)
This KPI measures how many days of inventory is on hand. It is similar to inventory turnover but indicates the number of days until inventory is sold. For example, if the day’s sales in inventory are 30 days, then the inventory turns would be 12 (or once a month). You can affect this KPI by carrying the least amount of inventory necessary to meet demand.
(Current Assets) – (Current Liabilities)
This KPI measures the available assets to meet short-term financial obligations. These types of assets can include cash, investments, or accounts receivable. A company can analyze financial health by seeing which available assets can meet short-term financial debts. To calculate working capital, subtract current liabilities from current assets such as the examples mentioned earlier.
Return on Assets
(Net Income) / (Total Assets)
This financial KPI measures the rate of earnings generated from invested capital in assets and can be affected by increasing earnings and/or reducing invested capital.
Return on Equity
(Net Income) / (Shareholder’s Equity)
This financial KPI measures the return on capital invested by shareholders of the company and can be affected by increasing earnings and/or reducing the amount invested by shareholders.
What KPIs Are Important To Measure?
KPIs for capital-intensive industries (manufacturing, distribution, telecommunications, transportation, etc.) often focus on how effective and efficient assets are utilized to produce a return. Whereas KPIs for service-based organizations (i.e., companies that bill people, hours, or projects to clients) tend to focus on utilization (percentage of total working time charged to customers) to drive profitability.
Most businesses, regardless of the industry, should measure KPIs that focus on generating positive cash flow from operations. Companies should also monitor how quickly it can turn sales into cash (days sales outstanding) or how long the money is invested in inventory (days sales in inventory).
The important thing is to determine what measurements are most appropriate for your specific business and industry. One way to do that is to look at other companies in the same industry and identify what measurements they are using. Those analyses can also be used as benchmarks to compare your business against others in the same industry.
Profitability is the easiest and most straightforward measurement of a company’s success. However, if you want to take your business to the next level, it is also important to look at other key performance indicators that can drive profitability and how they can be influenced to increase and drive performance. If you need help identifying, monitoring, and influencing KPIs to improve the current and future value of your business, contact us today for a free consultation.
This article is a guest post, written by Unleashed Software. Unleashed’s online inventory software helps businesses better manage their inventory.
Effective and efficient inventory management is crucial to the profitable running of any inventory-based business, which is why you should know your company’s inventory turnover ratio. With this in mind, there is one simple accounting formula that inventory-based enterprises use to calculate just how well they are controlling the flow of inventory through their supply chain.
In short, the inventory turnover ratio allows a business to calculate the rate at which it acquires and resells goods to its customers. This allows a business the ability to clearly assess how well it is performing and whether it needs to either buy in more inventory or cut back on purchasing.
Because the two extremes of poorly managed inventory – overstocking and stockouts – place considerable burden on the bottom line of a business, it is crucial that an in depth appreciation of the rate at which inventory is being turned over is gained.
Armed with this financial information, operations managers are much better able to address costly build ups of stagnant stock in storage as well as forecast and purchase in-demand stock to meet customer service targets.
How the Inventory Turnover Ratio is Calculated
The most basic formula for calculating your business’ turnover ratio (i.e., the of times inventory is turned over within a given period) is to divide net sales by inventory.
Turnover Ratio = (Net Sales) / (Inventory)
The net sales figure is taken directly from the Income Statement of the company and the inventory number from the Balance Sheet.
So, for example, if a business’ annual net sales as recorded on its Income Statement is $2,000,000 USD and its inventory as recorded on the Balance Sheet is $200,000 USD, the turnover ratio (the amount of times within a year that it purchases and sells off its inventory) will be $2,000,000/$200,000 = 10 times.
A High Rate of Inventory Turnover
A company’s performance is directly linked to how well it manages its inventory. Typically, a business that boasts a high rate of inventory turnover can rest assured that it is managing the flow of inventory through its business proactively and profitably.
Generally, less inventory on the shelves results in less risk as a result of damages and obsolescence, as well as greater protection against fluctuations in market prices. If a business is stuck holding on to a surplus of unnecessary inventory and the market suddenly dips along with the retail price of those goods, then significant losses can be sustained.
The one potential red flag raised by a notably high inventory turnover rate is the risk of running into a stock-out situation. This is where a business does not have enough stock on hand to meet sudden surges in demand. This then leads to loss as a result of missed sales, customer dissatisfaction and even lost customer allegiance.
A Low Rate of Inventory Turnover
If inventory is turning over at a sluggish pace, then a business is not maximizing its ROI (return on investment). Low turnover rates are symptomatic of a business that is overstocking inventory and therefore wastefully limiting its available cash flow.
Worse still, is that a business that is unable to move its inventory efficiently automatically puts itself at risk to sudden market changes which could adversely affect the retail price of the goods it holds.
This will leave little choice but to either sell off at cost or liquidate stock at a loss. Either way, a low inventory turnover means that inventory is being managed poorly or sales are low. Both scenarios are bad news for business.
Effective inventory management software will help a business gain a sound appreciation of its inventory turnover rate. This is the first step in being able to address the issues that arise from carrying either too much or too little inventory.
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