Five NumbersYou need to know

Here are five numbers every business owner should know.

1.      Reconciled cash balance

2.      Days sales outstanding

3.      Break-even point

4.      Margins

5.      Your special industry number

 

1. Reconciled cash balance
Your reconciled cash balance is the starting point to manage cash flow. It tells you where you stand, and if you’ve got cash on hand to meet immediate costs.

It’s easy to calculate with accounting software like MYOB or Quicken. Otherwise, check your bank account balance (an online system like CommBiz is a must for this). Deduct any cheques written or payments made that haven't cleared - like salaries, rent or regular bills. Then add back cheques deposited and other unprocessed receipts.

 

2. Days sales outstanding
Days sales outstanding (DSO) tells you how long on average it takes you to get paid after issuing an invoice.

If you give credit, it reveals a lot about the efficiency of your collection policies and can act as a warning you could be heading into cash flow difficulties.

Here’s how it’s calculated:

 Day sales outstanding = Total receivables outstanding divided by Total credit sales (over the period) times Number of days in period

For example, if you have annual credit sales of $547,500 and $60,000 in accounts receivable, then:

 Days sales outstanding = $60000 divided by $547500 times 365 which = 40

Track DSO and try to drive the number down. Even if sales increase, DSO should stay the same. If it increases, find out why, then get it down. Try improving invoicing process, negotiating better terms with customers, or invoicing for progress payments synchronised with your clients’ payment cycles.

3. Break-even point

Your break-even point is the point at which revenues exactly cover your expenses. Start by calculating two other numbers:

  • Fixed costs. Costs you have to meet including wages, rent, leases and administrative costs. They don’t include the variable costs of sales. E.g. Let’s say your fixed costs are $100,000 a year.
  • Gross profit margin. The percentage of each sale left over after costs of that sale have been covered. It equals total sales minus variable costs, expressed as a percentage. E.g. If you’re selling a toy for $100 which cost $60 - the gross profit is $40 and the gross profit margin is 40%.

Once you know those numbers, you can work out how many sales you need to make to break even:

Break-even point = Fixed costs ÷ Gross profit margin

Using the figures above:

Break-even point = $100,000 ÷ 40%
= $250,000

You need to sell $250,000 worth of toys to break even each year.

Break-even analysis helps you work out:

  • The profitability of your product.
  • How far sales can drop before you start making a loss.
  • The units you need to sell before you start making a profit.
  • The effects of changing your price or volume of sales.
  • If costs increase, how much you have to sell at current prices to cover these costs.

 

4. Margins
First of all, don’t confuse margin with mark-up.

Margin is expressed as a percentage of the selling price:

Margin = Gross profit x 100
Sales

Mark-up is expressed as a percentage of the cost price:

Mark-up = Gross profit x 100
Cost

For example, if a new product costs $100 to buy and you need to make 40% to break even, how much do you sell the product for?

The answer is $166.70, since a profit of $66.70 on a $166.70 sale gives you a margin of 40%.

Knowing which of your products and services have the highest margin and are therefore most profitable allows you to make the most of them.

5. Your special industry number
Every industry has at least one. Here are some examples:

  •             Restaurants: covers per night, wastage.
  •             Services: staff utilization rates.
  •             Hotels: occupancy rates.
  •             Builders: work in progress, progress payments due.
  •             Retail: sales per meter of floor space.

Knowing the benchmark indicators for your industry can help you compare yourself with your peers, measure your business’s success, and identify any problems.

Where to find out more

  • Australian Tax Office industry benchmarks
  • Cash flow
  • Mark-up and margin
  • Five financial ratios you need to know