How was business this year? From profitability and gross profit margin to meeting goals, here are several bookkeeping tips for evaluating business success.
For some business owners, success is all in the numbers. If you’re already profitable and your numbers are trending up, then you’re successful. But others measure success in terms of employee satisfaction, customer satisfaction — even whether the owners themselves are satisfied. If you’ve grown the business to the point where it can function without your involvement 24/7, that’s a legitimate measure of success.
But regardless of how you keep score, your bookkeeping tells you how you’re doing. With this financial insight, you can ensure you’re on the path to success. Here are several common methods for evaluating business success.
Obviously, profitability — taking in more than you spend — is important. And regardless of your line of work, some basic math can tell you whether or not your business model will generate a profit. If you open a deli, for example, and you sell sandwiches for two dollars apiece but each sandwich costs five dollars’ worth of ingredients to make, you won’t stay in business very long.
But the formula for determining profitability is rarely that straightforward. Let’s go back to that deli. Even if the numbers were reversed — if you sold sandwiches for five dollars apiece and they required only two dollars’ worth of ingredients to make — that still doesn’t necessarily mean the deli will be profitable. You have to factor in all the other costs associated with the business, from rent and utilities, to hiring, training and paying employees, to advertising and marketing. You need a more granular breakdown, including …
Gross Profit Margin
Basically, gross profit margin accounts for all of the plusses and minuses, or profit and loss. On one side of the ledger is your sales. How much money did you bring in for your product or service? To get to gross margin, you subtract cost of goods sold (COGS) from your sales.
Again, at the deli, a large portion of COGS would be the ingredients for those sandwiches. On the other hand, for a services company, “goods sold” includes things like salaries and payroll taxes — all the necessary costs required to provide the service.
Now let’s do the math. The gross margin is what you sold for your product or service versus what it cost to provide it. To determine gross margin percentage, take the sales number, subtract COGS and divide what’s left by the original sales number.
For a basic services business, it would look work like this:
Sales = $100,000
COGS (personnel and subcontractors) = $60,000
Your gross profit is $100,000 (sales) minus $60,000 (COGS), which leaves $40,000. Divide that $40,000 by $100,000 sales, and you end up with a gross profit margin of 40%.
When evaluating your business, use the gross margin as a starting point. For nuanced financial insight, look at profitability by product or client. You may find that a specific client or product presents a loss. You can then use that information to make strategic decisions.
Balance Sheet and Cash on Hand
The simplified example above provides a clear window into business success in terms of profitability. In real time and in the real world, the math can get fuzzy as you try to keep tabs on your balance sheet and actual cash on hand.
The balance sheet (assets = liabilities + owner’s equity) provides a picture of how your business is doing at a point in time. The balance sheet is a great tool for evaluating your business. My colleague Steve Barber shares how your balance sheet can provide insight about the health of your business.
Cash on hand is essentially what it sounds like: money that’s readily available. As a general rule, you should have enough available cash to carry your business for three to six months.
Startups are particularly vulnerable to a shortage of available cash. Inexperience and a desire to run a lean operation can lead to an inability to meet basic expenses — a primary reason that half of all small businesses fail to last five years.
From Here, Success Is up to You
Our goal here is not to tell you everything you need to know about financing a small business. It’s to help you understand where you need to set the bar so you can be among the 50% of small businesses that stay in business for at least five years. After that, the definition of “success” is entirely up to you.
Do you want to grow your business and open additional locations? With the right budgeting and forecasting intelligence, you can make an informed decision about whether that’s financially feasible.
On the other hand, maybe your definition of success involves stepping back and spending more time with family, pursuing a hobby, traveling or volunteering within your community. You might be able to accomplish that by outsourcing some of the functions you’re currently doing yourself, such as bookkeeping.
Get the Best of Both Worlds
In fact, an outsourced bookkeeping and controller services provider could help you become more successful financially and in managing your time. You’ll be able to focus more on achieving the long-term goals of your core business — and a bookkeeping pro can help introduce new systems and efficiencies that help boost your bottom line. That’s a success by anyone’s definition.
At Supporting Strategies, our experienced, U.S.-based professionals use secure, best-of-breed technology and a proven process to provide a full suite of bookkeeping and controller services. Are you ready to learn how you can move your business forward? Contact Supporting Strategies today.