Monitoring Business Performance – Part 1

Many business owners and managers believe they don’t have the expertise required to implement their own performance management tools. They see complicated packages available for purchase and think (i) because it’s complicated it must be good; and (ii) because it’s complicated it must be beyond them.

Neither of these is necessarily true. Although these packages have been tried and tested they are often limited by their attempt to be all things to all businesses – they provide a lot of information, only some of which may be relevant to your particular organisation.

I’ve worked with a number of business owners and managers to implement performance management tools and found that a simple one-page KPI Dashboard can be extremely effective – and simple to implement. And you don’t need to be an IT expert to create one, a reasonable knowledge of Excel and an understanding of your business’ goals, drivers and soft spots is enough.

Take a simple cash business, for example a boutique retailer or services provider. Because of their cash basis the performance of these businesses is relatively easy to analyse – it’s all about cash in and cash out (liquidity) and what’s left at the end of the day (profit).

Many businesses are a variation on this, simply adding layers of complexity for diversity of products and processes. For this reason we recommend most business start with a basic KPI Dashboard focusing on:

a) Liquidity – These KPIs measure how much cash your business has available to fund itself. For example:

  • Current Ratio (also called the Working Capital Ratio) compares current assets to current liabilities and measures whether or not the business has the ability to pay its shorter term liabilities. A ratio of 2:1 (i.e. $2 of assets to every $1 of liabilities) is generally considered acceptable.

  • Acid Test Ratio (also called the Quick Ratio) compares current assets which are easily converted to cash to current liabilities. It’s a more stringent test which assesses whether your business can repay its current liabilities immediately. A ratio of less than 1:1 indicates that it cannot.

b) Profitability – These KPIs measure how effectively your business uses its assets and manages its expenses to generate profit. For example:

  • EBITDA is ‘Earnings Before Interest, Taxes, Depreciation’ and Amortisation and is used as an indicator of cash flow. The ratio below measures the extent to which cash expenses chew up revenue.

  • Net Profit is generally considered to be what’s left to put in your pocket at the end of the day. However it’s also the buffer – or safety margin – and indicates how much sales can decline before your business starts making a loss.

The above ratios provide a good starting point for any KPI Dashboard, and although they are all helpful in isolation (e.g. in identifying trends) profitability ratios provide a much greater benefit when compared to industry benchmarks. If you don’t have this information on hand consider contacting your industry body or searching the IbisWorld or Australian Bureau of Statistics websites for information.

In my next blog I’ll talk about additional measures which would be appropriate to a more complex non-cash business environment, including working capital turnover and debt/equity leveraging.

Elizabeth Mawby was a former Client Director at Vantage Performance, Australia’s leading business transformation and turnaround firm – solving complex problems for businesses experiencing major change.

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