Build Your Business Using Financial Key Performance Indicators

By Lyon Wealth Management on January 6, 2018

“If your only tool is a hammer, every problem looks like a nail.”  Abraham Maslow

We feel it is critical to use Key Performance Indicators (KPI) in monitoring your company’s financial health and thereby increasing its profitability.

Benefits of Key Performance Indicators

Stockholders, investors, and customers use financial data to measure the profitability and sustainability of your business model.  Make sure financial key performance indicators are working for you in all areas to help you grow your business.

Current Ratio Test

Your company’s current ratio is a great example of a very useful financial key performance indicator. The current ratio is your current assets (for example cash and accounts receivable) divided by your current liabilities (such as accounts payable due in thirty days or less). This metric measures the ability of your organization to pay its debts on time.

For example, if your company has $30,000 in cash and $15,000 in accounts payable due in thirty days, your current ratio is 2:1 ($30,000 in cash divided by $15,000 in accounts payable). A high current ratio indicates solvency and sustainability. A current ratio of between 2:1 and 3:1 is considered healthy.

A current ratio of less than 1:1 indicates your company may not be able to meet its current financial obligations within the next thirty days. This could be because of a cash flow problem due to the business funding growth using its savings or accumulating debt.

If your current ratio is more than three to one, it could indicate your company is holding excess cash instead of investing it in your business. This will significantly slow the growth of your organization.

The current ratio KPI provides owners, investors, and financial professionals a significant amount of information about the efficiency of your company’s business. It answers the crucial question: “Is your business able to generate a constant revenue stream with consistency over a specific period of time?”

Return on Equity

A very powerful way to measure your company’s profitability is the “Return on Equity” ratio.  It is calculated by taking the organization’s net earnings after taxes subtracting preferred dividends and dividing the result by common equity.

“Return on Equity” shows how much profit an entity generates relative to the amount the business owners have invested in the business.

Ratios are the vital signs of every business.  They give Business Owners a clear picture of their organizations’ performance.  Critical analysis relates one part of a Financial Statement to another or different financial reports to one another.  It can also be used to compare your financial position to an industry standard or to measure improvement from year to year.