3 Financial Metrics You Can't Miss
I do not consider myself a math person, and I have no formal training in business. I've always just done things using my gut instinct. Yet, in the face of some cash flow hiccups this past year, I decided I was missing a fundamental understanding of key indicators that would help me guard against, rather than react to, financial ups and downs. A respected friend and mentor recommended a book called Simple Numbers, Straight Talk, Big Profits! by Greg Crabtree. Reading it helped me understand important links between different aspects of my business, and also put words to things I sensed but sometimes had difficulty explaining.
While this article is no replacement for Crabtree's book (everyone who wants to better manage and grow a business should read it), here are a few of the important lessons Crabtree teaches that I am focusing on:
Start a reserve fund.
As a small business owner, you probably operate without a safety net--either out of a perceived lack of funds to build one, or a lack of foresight on why having one is essential. Crabtree points out that if you create a reserve fund early on, you'll find outside factors can do less detriment to your business in the long run. I know it's never easy, especially in the early stages of building a business, to carve out funds for something that seems somehow non-essential right now. When I think about the difference it would have made if, weekly, I had set aside even a very small amount of money in a reserve fund, I know the amount accrued over time would have been very helpful to handle everything from seasonal slow-downs to tax obligations to unexpected increases in orders. Build a contribution to a reserve fund into your operating expenses and you'll construct a safety net as part of how you do business rather than as an afterthought.
Focus on margins, not just sales.
Sure, like most entrepreneurs, you enjoy seeing sales numbers growing, and you often live and die by those numbers when assess the health of our businesses. Crabtree explains that this number is meaningless if you don't also look at margins. Why? Because sales only matter if they are healthy sales. A company that sells $100,000 worth of merchandise on which it makes 10% profit is a much healthier company than one that sells $100,000 on which it makes 5% profit. Yet the owners of both companies, if they rely only on sales figures, would seem to be equally successful. If I do not watch the margins carefully, my company will not continue well because the money to increase product lines and provide top-notch service will dry up. If you focus more on maintaining and improving margins, you'll improve your company's stability, and guarantee you'll be able to stick around long-term.
Chances are, you don't look at the financial components of your business as often as you should. But you need to look at operating expenses, labor productivity, and profit margins on a regular basis (once a month is a good routine) if you want to catch problems before they come up. As I read Crabtree's book and began to chart some of the data he indicated as important, I began to see connections between parts of my business that I had not seen as inter-related before. For instance, the total amount of money that could be allocated to employee salaries--once a grey area--suddenly got distilled into a simple formula. With that formula, deciding when and if I have the money to bring on an additional employee at a given time, became much easier. The best way to grow your company correctly, however, lies in organizing and understanding your data well. Committing to keeping the financial nuts and bolts of your business in a format that allows you to mine data quickly is essential to evaluating your business on an on-going basis.
Accountants aren't the only ones who should understand money. Every business owner--non-numbers people like me included--must know what the dollars generated really mean. If you get a grasp on these statistics, you'll help protect your business against unforeseen market shifts, economic difficulties like changes in bank lending, and much more. Crabtree's book boiled down what seemed like complicated numbers to straightforward knowledge, and gave me the words to better communicate with my CPA, who also loves it.