5 Financial Metrics for Business Success
The financial health of a business must be prioritised if it is to meet its objectives and sustain long-term success. This involves assessing key aspects of its operations such as its profitability, cash flow, liquidity, and debt levels to evaluate where improvements can be made to optimise performance.
By keeping a close eye on various financial metrics, a business can not only thrive during the good times but also ensure its resilience through more challenging times. In this article, we will outline five key financial metrics that reveal the financial health of a business and can give it the insight it needs to ensure its continued survival and growth.
Gross Profit Margin
This metric reveals the percentage of revenue that remains after deducting the cost of goods sold (COGS). It looks at every dollar a business generates in revenue, and calculates how much of that dollar went towards costs of production such as materials and manufacturing.
Gross profit margin = (Revenue – COGS)/Revenue x 100
This metric can tell a business how efficient its operations are, with a high margin indicating greater overall efficiency.
Net Profit Margin
This is a key metric in determining a business’s profitability. It measures the percentage of profit made from every dollar of revenue generated after all expenses including taxes, payroll, and other operating costs have been deducted. It is calculated as follows:
Net profit margin = Net profit/Total Revenue x 100
A high net profit margin reveals a business is making healthy profits relative to its revenue. In contrast, a low net profit margin indicates a business needs to lower its expenses or look for ways to generate more revenue to improve its profitability.
Debt-to-Equity (DE) Ratio
The DE Ratio measures the level of debt a company has in relation to the equity invested by its shareholders. It is calculated as follows:
DE Ratio= Total liabilities/Shareholder equity
A high DE ratio shows a business is highly leveraged which could put it at risk of financial instability due to high interest repayments and an increased chance of defaulting on its loans. If your business is experiencing financial difficulties, BABR offers a range of solutions that can help businesses navigate and resolve these challenges.
Cash Flow Ratio
This key metric measures how liquid a business is and its ability to meet its financial obligations. It monitors the inflow and outflow of cash in a business, revealing its ability to meet short-term liabilities such as payroll, interest payments and other day-to-day expenses.
Cash Flow Ratio = Operating Cash Flow / Current Liabilities
The higher this ratio, the more financially stable a business is.
Return on Investment (ROI)
ROI measures how well an investment performs by calculating its return relative to its cost. It is an important metric when deciding whether to invest in a new initiative or project as it assesses the efficiency of that investment. ROI is calculated as follows:
ROI= Net profit/Cost of Investment x 100
An ROI greater than 100% shows that an investment is profitable as any gains generated exceed the costs of the investment. In contrast, an ROI below 100% is not profitable, as any gains do not exceed the investment costs.
By tracking these key metrics a business can proactively manage its finances and make adjustments where needed.
