Financial Metrics → not the sexiest topic for most, but today we’re going to dive into the financial terms you need to know, the metrics you should understand, and the way you can calculate, track and analyze them for your small service business!
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Welcome back I’m Traci Simkins and this is Refined By Divorce, it’s a place for women who want to rebuild a thriving life and become financially secure after divorce, by starting a small service business. We talk about entrepreneurship, working in and outside the home as a single mom, mindset, and everything in between, and today we’re talking Financial Metrics for the Sole Proprietor or one member LLC.
But before we get there, I start every episode with a little bit of inspiration, by spotlighting a woman from history who has gone before us and paved the way, affectionately referred to as a refined Rebel.
Refined Rebel - Euphemia Lofton Haynes
Euphemia Lofton Haynes entered the world in 1890 with a spark of curiosity in her eyes. That ignited into a flame of brilliance that would illuminate the path for generations to come.
Amidst a society constrained by racial and gender biases, Euphemia defied expectations. In 1943, she etched her name in history as the first African American woman to earn a Ph.D. in Mathematics.
With her doctorate in hand, she embarked on a journey that melded her passion for mathematics with her dedication to education. For years, she stood at the front of classrooms, delighting young minds with the magic of numbers. But her impact extended beyond the four walls of any school.
Euphemia took the helm as the head of the Washington, D.C. Board of Education — a trailblazing move that echoed her commitment to breaking down entrenched divisions. She helped to reshape the educational landscape, ensuring every child had the opportunity to excel, regardless of their background. Her tireless advocacy for integration, made D.C.’s public schools more than just halls of learning — they became arenas of empowerment and hope.
You can read much more about Alexandra and the other Refined Rebels here.
Financial Metrics
Euphemia understood the power of numbers, formulas and data, and she could run circles around most of us, but I’m going to share what I know with you about using financial data to help guide you in your business.
Financial Metrics is not the sexiest topic, but it is important to understand certain financial terms and how to calculate them, so you can monitor and manage the financial health of your business. If you caught my Daily Dose of Vitamin B on Friday, then you’ve already heard some of this, but this episode will dive deeper into that information and so much more. By the end of this, you should be a small business financial wizard, and what’s sexier than that?
Why is it important to understand and follow financial metrics? Most of us Entrepreneurs believe we have a natural ability and gut instinct for business, and I don’t deny that, I feel that way myself, but the successful Entrepreneur understands that an informed decision is the way to go. Monitoring certain metrics will lead to better choices, improved business performance, and a healthier company overall. The data you get by following the money, will guide you in the right direction.
Now all of this is much easier if you set a few things up right from the very beginning. Get a business bank account where all of your money flows in and out of. And then for accounting, I recommend FreshBooks, or there’s QuickBooks. And you can integrate your bank with your accounting software to make it even easier. They have so many tools and resources that will make getting your hands on reports with useful data as easy as pushing a button, so you can make the best decisions.
Even if you’ll be using an accounting software like that will calculate the metrics and generate the reports for you, it’s important to understand what they’re trying to show you and how you can best interpret them for your benefit.
I’m going to cover the basics of financial metric monitoring in detail so that by the end of this episode you will have mastered these initial concepts.
I’ll define the terms, and go over how to calculate them and discuss what they’re used for and give you some examples.
You can track these annually, quarterly, monthly, or whatever else works for your business, as long as you’re consistent. You want to be comparing apples to apples and oranges to oranges.
Revenue and COGS
So let’s start off with defining Revenue and COGS.
Revenue is the total income generated from providing your service
Cost of Goods Sold or (COGS) – this is the direct cost of delivering your service. It usually includes the cost of time spent on delivering your service. It would also include the cost of any specific materials, equipment, or software involved in delivering the service, as well as any expenses incurred. A good way to determine if an expense is a direct cost is to ask yourself if you would have incurred the cost without making the sale. This category doesn’t include your overhead, utilities and marketing costs – those are all indirect and fixed costs.
Gross Profit and Gross Profit Margin
Now that we have Revenue and COGS, we can find the Gross Profit.
Gross Profit is the amount of revenue left over after subtracting COGS.
- Gross Profit ($) = Revenue – COGS
And from there we can calculate the Gross Profit Margin.
Gross Profit Margin is the percentage of revenue that you’re able to convert into gross profit.
Gross Profit Margin (%) = Gross Profit ÷ Revenue × 100
Net Profit and Net Profit Margin
Next up is Net Profit.
Net Profit is the amount of revenue left over after subtracting all business expenses, both direct and indirect, including COGS.
- Net Profit ($) = Revenue – All Business Expenses
And from there we can calculate the Net Profit Margin.
Net Profit Margin is the percentage of revenue that you’re able to convert into net profit.
Net Profit Margin (%) = Net Profit ÷ Revenue × 100
Purpose of Profit Margins
Of course the higher your Profit Margins the better, but you can use these metrics to determine your profitability, growth and efficiency.
Gross Profit Margin is the simplest, most important measure of your profitability, and 30% is the industry standard for a service based business. A margin of 30% or higher means you’re making money, while anything below 30% can be an opportunity to work on your pricing, marketing and/or delivery.
Net Profit Margin shows your overall profitability, indicates efficiency, and can help you analyze your fixed costs, but the drawback of this metric is that it can drop during periods where you have a one time operating expense, or temporary increase occurs, making it harder to compare to the industry average and your competitors during that time period. A low net margin isn’t always a bad sign. If you’re growing and reinvesting your profits back into the business, your net margin will be low. That’s why you want to look at your Gross Margin too.
CAC
Next up we have,
Customer Acquisition Cost also known by it’s very harsh sounding
acronym – CAC this is the cost incurred to acquire a new customer.
- CAC ($) = Sales & Marketing Costs ÷ # of New Customers Acquired
Understanding how much it costs to acquire new customers is crucial for a new business. This metric helps you determine the efficiency of your marketing and sales efforts and ensures that your strategies are cost-effective.
Accounts Receivable & Accounts Receivable, Aging
Accounts Receivable, Aging is a report that can show all outstanding invoices, along with how old the account is. Keep an eye on the aging of these accounts so you can work on collecting payment. This is revenue that shouldn’t be forgotten.
Operating Cash Flow
Operating Cash Flow: At its core, this is just a measure of revenue made
and bills paid during a specific time period.
- Simple Operating Cash Flow = Revenue – Operating Expenses
Now there are a couple of ways to calculate it, but for a new small service business, this simple formula is sufficient. It’s simply money in, money out, just like you monitor for yourself. It doesn’t reflect your cash on hand, investments or savings, it’s simply the revenue brought in less operating expenses.
Purpose of Operating Cash Flow
If your cash flow is positive, it indicates you generate enough income to cover your bills, without tapping into investments or funding. Operating cash flow indicates whether a company can generate sufficient positive cash flow to maintain and grow its operations, otherwise, it may require external financing for capital expansion.
If you have an accounting software, you can usually find this figure at the top of your cash flow statement.
In Summary
There are many more metrics we could cover, but for your small business, focusing on these metrics will help you make informed decisions to improve efficiency, profitability, and client satisfaction. Regularly review and adjust your strategies based on the insights gained from these metrics, and you will grow.
If you’ve made it this far, I’m impressed, and if you did, then you probably have what it takes to leave a review, follow, subscribe, comment, and so on. I would be so grateful if you would be so kind. I hope you have a wonderful week!
Love In, Peace Out.
Bye.
