Monitoring Business Performance – Part 2
How effectively do you monitor your business performance?
There are many performance measurement tools available off the shelf, but have you thought about creating your own? It’s not as difficult as you might think…
In my last blog I looked at implementing a simple (but effective) one-page KPI Dashboard in a cash-based business, such as a boutique retailer or services provider.
Now I’m going to take it one step further and look at how you can expand the simple KPI Dashboard to cater for more complex businesses.
A business becomes more complex when it moves away from a cash basis to offer customers credit accounts, and introduces finance facilities such as overdrafts and hire purchase.
Although often required to support growth and diversity, and to maintain competitiveness, these factors also increase the complexity of operating the business and measures need to be put in place which recognise this.
Analysis of a cash business is fairly straightforward and focuses primarily on cash in and cash out (liquidity) and what’s left at the end of the day (profit).
Analysis of a more complex business should consider the impact of credit offered and received on the funds available to run the business (working capital) and the impact of any borrowings (leveraging).
Here are some ratios which can help you manage your working capital (i.e. how effectively your business uses its available short term resources). The ratios I find most useful are:.
a) Days Receivable which measures how long it takes your customers to pay you.
b) Days Inventory which measures how long it takes you to sell your stock of inventory.
c) Days Payable which measures how long it takes you to pay your creditors.
These three ratios cover the three key areas of working capital and can be combined to create the Cash Conversion Cycle.
The Cash Conversion Cycle measures how long it takes from the initial investment in inventory to collecting cash from sales and then paying the business’ creditors.
This can be useful in assessing the likely impact (on cash flow) of strategies such as increasing investment in inventory to grow sales, and is calculated as:
Cash Conversion Cycle = Days Inventory + Days Receivable – Days Payable
Every business is different and will benefit from increased focus on the key drivers particular to its operations; however the above measures are centred on the fundamentals of working capital, which are a constant in any business and provide an excellent starting point.
In my next blog I’ll look at Leveraging Ratios. In the meantime please don’t hesitate to send through any comments or queries.
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.