Running a small business is no small feat. In addition to the experience you need in your area of specialty, you’ll be forced to take on the financial aspect of operating a business, too.
Although you can, of course, always hire expert help in the form of an accountant, leaning on that person too much can be dangerous. It’s important you have a rudimentary understanding of business financials so you can monitor the health of your business yourself and spot potential challenges immediately.
While every business is different, there are key business numbers you should monitor on an ongoing basis. In this article we’ll help you boost your financial literacy and share six key metrics every business owner should know.
1. Cash flow
Your business’ cash flow statement helps you stay on top of how much money came and went through the business for any period of time. The figure is computed by subtracting your operating expenses from the money your company generates during normal business activities.
When your operating cash inflow exceeds your cash outflow, this is a sign that you’re operating in the black. If the reverse is true, it’s time to take a closer look at your income and expenses.
2. Net income
You can calculate your net income, also known as net earnings or net profit, by subtracting all your expenses, including taxes, from your income. It’s not adjusted for items like depreciation. This number is important because it shows you how much money is left after accounting for business operations.
3. Profit and Loss
The profit and loss statement, or P&L, lists your company’s income (revenues or sales), minus your expenses, and shows you the profit or loss over a specific period of time. This statement is usually generated quarterly, every six months or yearly. Having a good understanding of your company’s profit and loss over time gives you the power to project earnings and make realistic plans for the future.
Sales – it’s what ultimately pays the bills, right? Keeping an eye on your sales numbers is important as a decrease could be a warning sign of trouble. It’s equally important to pay attention when sales are up. That’s because reacting quickly to an increase in sales also allows you to determine what you need to keep doing to sustain that growth.
5. Gross margin
Income minus direct costs equals gross margin. The higher your margin, the better off you are, because you need to have enough left over to pay your indirect costs, such as salaries, rent, marketing and utilities. If you don’t have enough left, it’s possible you’re not charging enough for your product or service.
EBITDA stands for earnings before interest, taxes, depreciation and amortization, which basically a way to make profits look better than in comparison with net income. EBITDA is often used as a way to report earnings for a company, but be careful! It can be deceptively optimistic because it doesn’t take into account items such as taxes and interest payments.
Understanding these critical financial numbers may not be on top of your to-do list, but understanding – and monitoring – these metrics will not only help you become a better business owner, but will also give you peace of mind.
Want to learn more? Don’t hesitate to contact the team of small business bankers at MidWestOne with questions or for more information.