Our previous post showed how your business’ key ratios can improve performance through the creation of a scorecard to measure
performance. Some of the key ratios you might want to consider calculating for your business are:
Gross Profit Margin – Gross Profit ÷ Sales
This shows how much of each dollar in sales you’re left with after paying your direct selling costs (like stock purchases, freight etc).
Net Profit Margin – Net Profit ÷ Sales
Similar to the Gross Profit Margin. It shows how much of each dollar in sales you’re left with after paying all your expenses.
Return on Assets – Profit before interest & tax ÷ Average Assets x 100
Although slightly more difficult to calculate, this is a good measure of the return you’re getting on the money you’ve got tied up in your business.
Note that the return is expressed as a percentage (like your bank interest).
Inventory Turnover – Stock Sales ÷ Average Stock on Hand
This is a great ratio for identifying whether or not you’ve got too much stock on hand. It calculates the number of times that your
stock is replenished each year. Put another way, it shows how many times (on average) every item of stock sells every year.
Another way to represent this is 365 ÷ (Stock Sales ÷ Average Stock on Hand). This shows how many days it takes you to completely run out of stock.
Debtor Collection – 365 ÷ (Sales made on credit ÷ Average Debtors)
The use of this ratio is discussed more fully in our previous post. In short, it calculates the number of days it takes you to be paid by the average debtor.
Current Ratio – Current Assets (like your bank a/c) ÷ Current Liabilities (like accounts payable)
This shows the amount of current assets you have on hand to pay your current liabilities. This is a key indicator of your liquidity
position and a test to whether you’ll be able to pay your debts as they fall due.
Interest Cover – Profit before interest and tax ÷ Interest Expense
This measures your ability to service the interest on your bank debt, and is used often by banks when you apply for new finance. It compares your net profit (before interest and tax) with your interest expense, calculating the number of times your profit is larger than your interest expense.
What other ratios do you calculate for your business? Is there any other ratios you would like an explanation of?