Effective Business Performance Metrics

Effective Business Performance Metrics

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Every entrepreneur looks at the financial structure of their business. One way to quickly understand the financial health of your organization is to look at the various financial ratios. Financial ratios provide insight into cash, credit and inventory situation. They reveal the stability and health of your business. Businessmen must review these ratios to understand the changing trends in the company.  

There are four basic types of ratios. They are: 

Liquidity ratios 

These ratios measure the amount of liquidity (cash and easily converted assets) that you have to cover your debts. 

Current ratio also called working capital ratio is used to measure your company’s ability to generate cash to meet your short-term financial commitments. Quick ratio measures your ability to access cash quickly to support immediate demands. A ratio of 1.0 or greater is generally acceptable. But this ratio depends on your industry. A low ratio means your company might have difficulties meeting obligations or taking advantage of opportunities. Higher ratio means it’s time for you to invest more of your capital in projects. 

Efficiency ratios 

These ratios are measured over a longer period of time and provide additional insight into different aspects of the business

Inventory turnover looks at how long it takes for inventory to be sold and traded during the year. This ratio will help you in understanding where you can improve in inventory management.  

Inventory to net working capital ratio can determine if you have too much of your working capital tied up in inventory. It is better if this ratio is lower. Evaluating inventory ratios depends on your industry and the type of business. 

Average collection period looks at the average number of days customers take to pay for your products or services. You can improve this ratio by establishing clear cut credit policies and also providing incentives to encourage payment. 

Profitability ratios 

These ratios help in understanding the financial viability of your business. You can also gauge what your position is in the industry.  

Net profit margin measures how much a company earns relative to its sales. Companies with higher profit margin are generally flexible and efficient. 

Operating profit margin or coverage ratio measures earnings before interest and taxes. Through this you can assess your ability to expand your business through additional debt or other investments. 

Return on assets (ROA) ratio tells how well management is utilizing the company’s various resources. Return on equity (ROE) measures how well the business is doing in relation to the investment made by its shareholders. Profitability ratios are also compared with several companies from the same industry to know where you stand. 

Leverage ratios 

These ratios provide an indication of the long-term solvency of a company and extend of your use of long term debt to support your business.  

Debt-to-equity and debt-to-asset ratios are used to see how your assets are financed. It can be financed from creditors or own investment. 

The ratios mentioned above will help you determine your financial position. Closely examine other factors and data to fully understand your business performance.  

Mistakes to avoid when taking a Business Loan

Mistakes to avoid when taking a Business Loan

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Taking a loan is one of the quickest ways to propel your business forward. But make sure that you look into a few things before applying for a loan.  

Given below are eight common mistakes that entrepreneurs must avoid when taking a loan: 

1. Not looking into the credit score 

One of the important factors that determine the approval of your loan is your credit score. Knowing your credit rating will show your where you stand. Get your credit score from several credit bureaus. 

2. Not having a business plan 

A concrete business plan is important to show the lender your future business goals. Specifically how you plan on achieving these goals. A plan helps convince the lender to invest in your business. A well written business plan will have information about past performance, competitive advantages and proposed project. When starting a new business, a detailed plan will determine the approval of the loan.  

3. Not providing adequate collateral 

Providing collateral is important should there be a default in payment. Collateral acts as the lender’s insurance policy. Use your property and assets as collateral and it will increase your chances of getting a loan. 

4. Not explaining what the loan is for 

When applying for a loan make sure that you explain what exactly the money will be used for. Lender will need to know how the money will be put to use and how it fulfils your wants and needs. 

5. Not prepared with financial documents 

You should always apply for a loan with the proper financial documentation. Apart from your credit score lenders look into your cash flow statement, six months of bank statements, tax returns, the most recent balance sheet and profit & loss statements. Therefore, always maintain a record of your financial statements and documents. Make sure it is up-to-date.  

6. Only focusing on the interest rate 

Interest rates keep fluctuating. Make sure you lock in on a rate you are comfortable with instead of waiting for the rate to change. Focus on other aspects of the loan like the term, lender’s flexibility on repayment and the amount needed for collateral.  

7. Not reading the contract 

Do not hastily sign any contract. Before you put your sign over the dotted lines make sure you fully understand the terms and conditions of the transaction. Once you sign there is not going back. Therefore, clarify any queries and do not assume anything. 

8. Depending on one lender 

Being fully dependent on one financial institution can make your business vulnerable. Instead focus on meeting other lenders and consider other financing options before you make a decision.