Financial management is one of the most important internal processes for any business. In fact, meticulous financial management ensures stability, tax compliance and good record keeping, and ultimately facilitates business growth.
But that’s just the tip of the iceberg. Carefully managing business finances and using the right budgeting tools are instrumental in driving growth across the whole organization.
To manage your finances efficiently and achieve better results over time, you need to introduce the right key performance indicator (KPI) into your financial processes.
These KPIs help ensure that you achieve your goals, and let you take a granular approach to monitoring, resource allocation, and forecasting. In other words, setting and tracking the right KPIs will prevent financial waste and that familiar enemy of profitability: maverick spend.
In short, KPIs help produce positive ROI on your investments.
Here are the KPIs you need in your financial strategy to fuel your growth in 2022.
1. Revenue concentration
Do you know where your revenue is coming from and how it's distributed across all your different client segments? Do you know who your biggest-paying clients are, or which clients might actually cost more than they bring into your business?
These are the types of questions you can answer by monitoring your revenue concentration. In a nutshell, revenue concentration lets you identify the clients, projects, and processes that generate the most revenue in a given timeframe, displayed as a percentage of your total revenue.
This is essential for smart resource allocation and forecasting, but it also helps you reduce business costs by focusing on the most valuable revenue streams while weeding out the underperformers.
To calculate your revenue concentration, or how much one revenue source contributes to your total revenue in a percentage value, use this formula:
- (Revenue by Source / Total Revenue) x 100 = Revenue Concentration
2. Sales growth rate
One of the most essential KPIs every sales team and every business owner should keep an eye on is growth rate. This indicates the rate at which you close more sales within a predefined time frame. This in turn highlights the areas of your sales strategy which perform best, as well as the ones you need to tweak and optimize.
It’s important to keep in mind that you need to monitor this and other growth metrics over time to generate relevant data and extract reliable insights. Here’s a formula to calculate your sales growth rate:
- (Current Net Sales – Previous Net Sales) / Previous Net Sales) x 100 = Sales Growth Rate
Your sales growth rate should be a positive percentage. If your current net sales are, for example, $5,000 and the net sales from a previous quarter were $8,000, then you would have a negative sales growth rate of -37.5%.
Apply this formula to your sales numbers to determine if you’re making or losing money, and by how much.
3. Financial spend per department
Every department in your company could be making or losing money. It typically falls on upper management to make smart investments and plug financial leaks as best as possible. That said, financial leaks can often go by unnoticed, especially if you are not monitoring your department spend.
For example, you need to know how much your marketing department is generating through all its campaigns and efforts, compared with how much it spends on those campaigns and tools. The best digital marketing experts out there will focus on minimizing their spend and investment while meeting their own marketing KPIs and goals.
More resources on company spend management
The same goes for any other department in your organization. But keep in mind that not all departments will generate clear financial insights. Your sales, marketing, and support departments will have clear spend vs gain reports, while other departments like HR and operations will require long-term monitoring to generate reliable ROI reports.
Monitor your departmental investments and compare them to the results generated by the department in a specific time frame to see if the department is making or losing money.
4. Net profit margin
Your net profit margin is an essential indicator of your company’s overall profitability in a given time frame. This is the profit your company generates after operating and non-operating expenses.
Operating expenses include rent and utilities, for example, while non-operating expenses include taxes and debt payment. The net profit margin is a key part of budget control, and monitoring this KPI tells you how profitable your business is and indicates the potential take-home amount.
Calculating your net profit margin has a simple and straightforward formula:
- (Net Income / Revenue) x 100 = Net Profit Margin
5. Debt-to-equity ratio
Get familiar with your debt-to-equity ratio, because it's another important KPI you need to monitor to determine your company’s debt relative to the amount originally invested by the owners.
The debt-to-equity ratio can help finance departments better understand where and how to invest back into the business to maximize your profitability.
Calculating your debt-to-equity ratio is easy and straightforward:
- Total Liabilities / Shareholders’ Equity = Debt-to-Equity Ratio
Needless to say, it’s important to have a low DER when applying for loan extensions or new business loans, as this is one of the primary factors that a potential lender will assess before granting you a loan.
6. Accounts receivable turnover
Are your customers paying on time? The accounts receivable turnover is a KPI that tells you if your customers are paying their invoices regularly and promptly, and it can tell you which ones are dragging their feet and hindering your cash flow.
The typical allotted time frame for invoices is 30 days. And it’s important that every customer pays their invoice before the end of the payment period. That’s the money you can count on every month, which leads to a steady and stable cash flow that you can use to ensure operational efficiency and invest back into your company.
Monitoring this KPI lets you weed out the slow payers and optimize your invoicing processes, so that you retain cash flow control and maximize your business spending without jeopardizing your working capital.
Here’s the formula to calculate your accounts receivable turnover:
- Net Annual Credit Sales ÷ Average Accounts Receivable = Accounts Receivable Turnover
To calculate your credit sales:
- Payment Owed - Retainer Fees or Completed Payments
To calculate your average accounts receivable:
- (Beginning Accounts Receivable + Ending Accounts Receivable) / 2
7. Working capital
Finally, your working capital is the money you spend on your day-to-day processes and operations. This KPI determines the overall state and health of your balance sheet, telling you if you’re operating in a deficit within a given period - which could have negative consequences for your company over the long term.
If you’re operating in a deficit, you may need to acquire debt to maintain operational efficiency until you improve your sales growth rate.
Here’s how you can calculate your working capital:
- Current assets – current liabilities = Working capital
Monitoring this KPI will help you make better decisions to improve your cash flow. This can include incentivizing your customers to pay a portion of their invoice upfront, scaling down your inventory to keep only in-demand products, or by identifying and cutting unnecessary expenses.
Over to you
Setting and tracking the right financial KPIs can make all the difference for your business in a competitive industry. Now more than ever before, it’s important to stay in control of your finances and make smart, data-driven decisions to keep your business on the right track.
With these essential KPIs in mind, you'll have safe and scalable financial forecasting, eliminate needless spending, and achieve your financial goals in 2022 and the years to come.