HOW DO YOU KNOW IF YOU’RE DOING WELL?
So much of our philosophy at Measure is founded in planning ahead – both for your business and your life. A business is like a fish, it must keep moving forward or it dies. When it comes to financial metrics however, we’re looking backwards. That is, we’re looking at our performance for the past month, quarter or year. The information we digest from our financial metrics tells us, in financial terms, if we’re succeeding in our positioning strategy and if we’re firing on all cylinders as we execute operationally.
Disclaimer: Dialing in your own financial model is hard work. If you can, work on this with a financial pro, bookkeeper or financially minded colleague/friend.
EXERCISE: BUILD YOUR FINANCIAL FORECAST
First things first: your financial metrics will flow from your financial forecast which is a vital part of your business toolkit. It might be helpful to review our articles on Financial Modelling.
Use our Financial Forecast template to guide you through building your Financial Forecast: Tools
– How has your monthly revenue been trending over the last 6 – 18 months? What client mix does it come from? See our client mix table: Tools
– What are your average monthly costs if spread over the last year?
– What variable costs have you had in your business? Contractors? Printing expense? Is there an average % of revenue over the last year to base this calculation on?
– Set your revenue targets that are reasonable and based on your goals moving forward.
– Establish a target % of revenue for your variable expenses.
– Target your fixed expenses. Rent, wages, advertising spend, etc.
– Set a reasonable goal for your monthly take home pay. Try to make it consistent – it will be easier to plan around.
– Do these targets allow for cash left over to save, pay taxes, and create a cashflow cushion? (10-20% cash left over?). If not review the above targets to adjust your plan.
DIAL-IN THE RIGHT METRICS
Revenue: AKA your sales. This is the core of you business strategy and the basis for your business model.
Gross Profit ($ and %): The $ left over from Revenue after you’ve paid for the variable costs or “Cost of Services”, usually freelance subcontractors and any costs like printing that are proportional to the sales generated. It is also useful to look at this number as a % of revenue. Sometimes referred to as Gross Margin (it’s the same thing).
Calculation: Gross Profit $: Revenue – Cost of Services AND Gross Profit %: Gross Profit/Revenue
Net Profit ($ and %): The $ left over from Gross Profit after you’ve paid for your fixed expenses, those expenses you incur every month regardless of your revenue (ie. rent, wages, utilities). Sometimes referred to as “Overhead” or “General & Administrative” expenses.
Calculation: Net Profit $: Gross Profit – Fixed Expenses AND Net Profit %: Net Profit / Revenue
Current Ratio: This is an indicator of your cashflow health. A quick snapshot to show if you have more cash coming in then going out in the short term. You want this ratio to be above 1.0 at least, ideally above 2.0 – meaning you have more short term assests than liabilities.
Calculation: (Bank Balance + Accounts Recievable) / (Short Term Debt: Credit Card Debt + Government Debt + Line of Credit + Accounts Payable + any Short Term Payments Due)
Take Home Pay: One of the primary elements of utopia, not the only one however. Love your business, love your lifestyle and make good money. As entrepreneurs, there are periods when we take home less than we feel we deserve and other times when we reap the rewards of our hard work that feel well earned. Track this monthly.
Profit per Hour: This metric is dependent on time tracking so if you do record time this is a good metrics to evaluate the value being generated by your business in addition to your compensation.
Calculation: Net Income / Total Owner hours
6 Month Projected Bank Balance:
The heart beat of your business. Having a view on your bank balance can help you sleep better at night. Forecasting your bank balance offers you the opportunity to make strategic decisions whether that forecasted picture looks like an opportunity or a challenge.
In our article “Net Income Does Not Equal Cash in the Bank” we discuss why your net income and bank balance are often disconnected and in “How To Manage Cash Flows” we give some practical tips on managing your cash flows. We suggest reviewing these articles along with working through our Financial Forecast Template to build your 6 Month Projected Bank Balance
Year-Over-Year Sales Comparison:
Sometimes in business we can’t see the forest for the trees. We get myopic and only see what’s immediately happening and surrounding us. Looking at year-over-year sales adds perspective. Tracking this info over time can also help in future planning as well as identifying trends like seasonality.
Calculation: We suggest looking at monthly sales for the current year and comparing them against the same months for the prior year.
Year-Over-Year Operating Income Comparison:
Like above, this metric adds an element of perspective. However, rarely do we grow efficiently and linearly. Review your year-over-year Operating Income on a monthly basis and compare it this to your year-over-year sales. Did you operating income grow with your sales? Did you increase sales only to have less operating income?
Calculation: Compare your monthly Operating Income of the current year to the year prior. Note: Operating Income is your Net Income before Owner Pay. You may decide to pay yourself more or less in different years and that should be isolated.
LOCK IN YOUR GOALS
Alright, it’s time to lock-in your goals in each of the above mentioned categories. Use your financial forecast to draw out your goals and put them on your dashboard.
– Revenue Year-to-Date
– Gross Margin $ and %
– Net Income $ and %
– Current Ratio
– Year-over-Year Sales
– Year-over-Year Net Profit
– Projected Bank Balance
– Profit per Hour
– Take Home Pay Year-to-Date
TRACK AND CALIBRATE
We recommend tracking the metrics above monthly and on a year-to-date basis. Looking at any given month can be misleading but as the month’s add up in our year-to-date view, we start to see trends and identify areas that need more attention or resources.
We believe that what gets measured gets done and perhaps more importantly, that by making course corrections along the way you are far more likely to reach your utopia where you love your business, your lifestyle and make good money.