Monitoring your financial statements should be a frequent practice for any entrepreneur. Financials show not only your businesses current financial coordinates, but its projected future. Working with your CFO or accountant/advisor to monitor financial progress can help you better plan for continued success in your enterprise.

 

Here a several key numbers a CFO or accountant/advisor look for when they review your financials.

 

1. Cash Flow. Healthy cash flow is imperative in any business. Cash flow stability or increases in cash indicate the business operations vibrancy. If you are always drawing on lines of credit to finance payroll or purchase inventory, understand you are taking risk on your balance sheet. Yet, positive cash flow must be balanced with other factors to properly assess a businesses financial health. Cash can increase simply from reduction in inventory, or collection on accounts receivables or increases in accounts payable or customer deposits.

 

2. Changes in liabilities. Significant increases in liabilities are future payments required from the business. The lower your liabilities, the healthier your balance sheet will be. Liabilities will increase with draws on lines of credit, loans to build to the business, or ballooning accounts payable. Customer deposits are also liabilities and require resources to fulfill the cash deposits already received. Simply, you want to know if liabilities are appropriately trending lower.

 

3. Analytics. Financial ratios are also helpful in assessing financial conditions. The current ratio of your business is simply current assets to current liabilities. This ratio measures the businesses ability to pay liabilities over the next year. The current ratio assesses the current solvency of the financials. For example if business has $800,000 of current assets and $400,000 of current liabilities, its current ratio is a healthy two.

 

Gross profit margins are vital to monitor in manufacturing or construction businesses. Gross profit margin measures the percentage of earnings after cost of goods sold. For instance if Q1 sales are $3m and cost of goods sold are $2m, gross profit is $1m The gross profit margin is the $1m of profit divided by the $3m of sales for a reasonable gross profit percentage of 33%.

 

Accounts receivable turnover is an efficiency ratio measuring how many times accounts receivable are collected during the year. The higher the accounts receivable turnover, the more efficient your business manages sales collection. This also monitors the risk of uncollectible receivables or bad debts. Bad debts should be lower than 2% of total sales in healthy businesses. Accounts receivable turnover ratio is net credit sales divided by average accounts receivable. For instance if all your sales on receivable are say $5m then the formula would be total sales divided by (beginning accounts receivable 500k + ending accounts receivable $500k)/2. The accounts receivable turnover would be 10. A very healthy analytic that shows you that majority of accounts receivables are collected within 30 days or invoice.

 

Summary

 

You need to be comfortable with analyzing your financials. If this is not easy for you, pay your accountant/advisor to look over your shoulder and help you decipher the insights that you can garner from appropriate financial management and analysis. Because informed financial management is the key to avoiding droughts and minimizing financial famines, and to making successful decisions about the future of your business. The proactive expense should more than pay for itself. You wouldn’t handcraft personal optical lenses without the right tools; don’t attempt it with your businesses financials. Work with your accountant or advisor.