It might not grow on trees, but knowing where your money is going can certainly help it grow more satisfyingly in your bank.
Measuring money metrics properly doesn’t need to be a headache, and you can get started with these key KPIs.
And, when you’re measuring your money, here’s how to understand the numbers – and do something to get them moving in the right direction.
Gross and net profit
Let’s start with gross and net profit, two examples of the business terminology that too often risk simply becoming buzzwords.
They aren’t just figures to chuck around, but fundamental measurements that can help you scale your business.
But what actually is the difference between gross profit and net profit?
First, gross profit, also known as ‘gross margin’ or ‘gross income’ is a measurement of the profit your business is making after you deduct costs that directly relate to the production of the services/goods you provide. Fixed costs, like rent, are not included in gross profit.
By keeping a track of your gross profit, you’ll be able to evaluate how efficiently you’re spending on things like raw materials and supplies throughout the manufacturing/service-delivery process.
You might then be able to spot where you can make improvements to save money – for instance, by switching to a better priced supplier. Without gross profit, you’re essentially flying blind.
Net profit, on the other hand, is your business’ profit after all its expenses have been deducted from revenues, including fixed costs such rent and rates.
Because of that, net profit gives an all-inclusive metric for profitability and provides insight into how well management runs all aspects of the business.
Again, you can interrogate aspects of your spending, but this time, all of them.
In theory, neither gross profit or net profit is particularly tricky to work out. But it is a fiddly process. Once you’ve done it, though, you can start formulating a plan on how you’re going to save some money that could be reinvested elsewhere.
Sometimes, your business will have money on paper, but not in the bank, which is often the case when your clients have said they will pay you, but haven’t quite got round to doing it yet.
That’s not good for you, especially if you’re a creative agency that sells high-value services, as you may be left waiting and twiddling your thumbs for a significant amount of money. Money that you may need right now, to pay staff, start a new project or scale up your business.
Because of that, it’s important you record something called your ‘debtors’ days’ so you can get an idea of the average length of time it takes for a customer or client to pay you, which you could then use as your go-to deadline.
Using your debtor days, you’ll also be able to get a better idea of your cashflow and whether yours is sustainable, or if you need to insist on more prompt payment.
As a business owner, you probably have a series of plans and back-up plans. You might even have back-up plans to those back-up plans.
But have you thought about what you would do if the worst were to happen and your business were to stop trading and making sales altogether? How long would it be able to last based on the cash it has in the bank?
The answer you give is known as your cash cover and is an important metric to measure for security purposes.
While making zero sales is an unlikely scenario to go through (discounting recent years!), understanding your cash cover has the added benefit of informing you on how well positioned your business is to adapt to unforeseen challenges or take advantage of a sudden opportunity.
None of these metrics are useful all on their own. To make the most sense of your business’ money, you need to look at the whole picture to draw the right conclusions and make the right decisions.
Contact us to learn more about measuring your business’ money and what you should do afterwards.