Understanding your business performance

Well, that’s a wrap on another financial year for many of us! We now move into FY24 and look back on FY23 – but how can we do that without becoming bogged down in the financial detail? Are there markers of business performance we should be looking at in more detail? It’s time to look at how your business is tracking and plans for the coming financial year. It’s time to look at how your business is tracking and plans for the coming financial year. It’s important to look beyond the bank balance to really understand how your business is doing.

Whether you’re a sole trader, have one or two employees or are starting to grow rapidly, having a good understanding of your financial statements is the first step.

Key Financial Statements

At the end of each financial year your accountant will produce your key financial statements, and these are the building blocks to understand your finances: The balance sheet, the cash flow statement (where applicable) and the profit & loss or income statement.

Your balance sheet is a snapshot at a point in time. It shows you the money in the bank and the assets which add value to your business, the liabilities which are what you owe to suppliers and lenders, and the equity, which is your business’ net worth. It’s called a balance sheet because the assets will balance with the liabilities and equity.

Your cash flow statement is literally that – the flow of cash in and out of your business from various sources – payments that come in from your customers, and payments you make out for stock, rent, salaries etc. 

Finally, the Profit & Loss or Income Statement shows all the revenue coming into your business, your expenses and your profit or loss.

Tallying Your Expenses

To keep your business running profitably you need to dig into what makes up your expenses, that’s things like:

• Cost of sales – this is what it costs you to make the product or service you are selling.
• Operating expenses or overheads – the cost of running your business, such as rent, vehicles, phones, marketing etc.
• Depreciation – comes from your business assets losing value over time and it’s charged on things like vehicles, office and computer equipment etc. 
• Tax – and of course, there is tax. PAYE and Company Tax are all part of running a business.

Having a good understanding of all your costs, lets you understand what the outgoings you need to cover are and what impact changes to those might make to your bottom line. 

Digging Deeper

Your financial statements give you a snapshot of the overall financial health of your business, but if you dig deeper into your financial figures, you can see what’s running smoothly or conversely where you might need to change things to keep the business on track.

At Villa we can help you track your business performance, you can also set up calculations/equations in most good accounting software packages. These equations are often called ratios, as they measure the difference in size or amount between two things. And it’s these differences that show how well your business is going.

Some quick explanations:

Gross profit margin = gross profit ÷ sales

Gross profit margin shows if your company earns enough to cover all expenses and make a profit.

Debt to assets ratio = total liabilities ÷ total assets.

Debt to assets ratio looks at all your business’s debts or liabilities and all its assets.

Your assets should be worth more than enough to cover your debts.

Current ratio = current assets ÷ current liabilities

Current ratio shows if your business has the ability to pay off its short-term debts using its short-term assets from cash, stock and accounts receivable. 

Quick ratio = (all current assets – inventory) ÷ all current liabilities

Quick ratio shows if your business can pay its short-term debts.

All of these are indicators of how well your business is running and provide useful information on which to make decisions. For example, if you have a low debt to asset ratio it will be much easier to borrow for things like expansion or new premises than if your ratio is high.

Depending on your business size and industry there may be more figures that you can use to understand how your business is performing.

• Return on assets — your business’s ability to make money from your assets
• Return on equity — how well your business is able to turn money into profit
• Inventory turnover — the number of times stock is sold and replaced in a year

Today, most accounting software offers a range of standard and customisable equations, charts and graphs to help you, so take some time to dig in and find out more about how your business is performing. 

And if you need further advice just get in touch with us.