The 7 Most Important Financial KPIs
The choices for financial indicators are not easy. Which financial criteria are good indicators to measure the success of the business?
Here are explained seven indicators that are of great importance to almost every company.
1. Turnover development
Every company wants to make money. The most tangible way to do this is by creating, maintaining and increasing sales. Keeping these Key Performance Indicators allows you to see when, how and why the turnover increases or decreases. You can also see which measures you need to take to stimulate an upward trend.
Also, favorable development of top-line growth can be useful for attracting investments. The top line (turnover) is at least as important as the bottom line (profit). Profitability can increase because costs decrease due to economies of scale. Turnover growth shows that your business is growing.
2. Net profit
The ‘bottom line’ is simple, the revenue minus the expenses. Profits are needed for growth and for rewarding shareholders who have provided (growth) capital. Nevertheless, it is important not to declare profit as the sacred criterion. A look at the indicators below is necessary to ensure that profitability is sustainable.
3. Net profit margin
The net profit margin is the net profit expressed as a percentage of the turnover. With the net profit margin, you get a grip on the relationship between the money flow that comes in and which part of this money flow you have to keep on board. This indicator helps you answer the question: ‘How much profit do we generate on every dollar of turnover?
When profit margins are low, small changes in the trading environment can lead to drastic profit decline. Monitoring this indicator over a more extended period helps you determine whether lowering costs or increasing sales has the most favorable effect on your profit figures.
4. Gross profit margin
The gross profit margin is the percentage of turnover that can be expressed as the gross profit. In contrast to the net profit margin, only the costs of the goods/services sold are collected instead of all the costs of the turnover. The gross profit margin is, therefore, the difference between the purchase price and the selling price of a product/service.
If your gross profit margin is too low, this means that the costs for the production of your goods or the delivery of your services are too high. Investors see in a stable gross profit margin that the business model is sustainable and does not depend too much on external factors, such as material costs.
5. Operating profit margin
The operational method is an excellent way to measure the efficiency of your business. When you take out the operating costs, which part of the turnover will be left over? You can calculate this figure by dividing the operating income by the turnover.
You can compare this figure with competitors to see who delivers the most efficient goods or services. By increasing business profit margin, you can earn more profit on every dollar turnover.
6. Return on investment (ROI)
You have to spend money to make money, but this must, of course, be done thoughtfully. It is, therefore, necessary to measure to what extent the money you spend converts into income. With the ROI you can measure the return on investments.
By understanding where you can optimize the ROI you know in which parts or services of the company, you can invest the best. You can calculate the return on an investment of a project by dividing the proceeds of a project by the specific investments for a project.
7. Cash conversion cycle
How quickly are investments converted into profit? Many companies are unable to recoup additional investments, for example, because the customer’s growth is disappointing or they do not have enough liquid assets to cover ongoing costs.
By monitoring the rate at which expenses in the business result in additional income through sales, you can optimize liquidity and ensure that there are sufficient cash reserves when you need them. The late payment of accounts is often accompanied by additional costs that weigh on profitability. The cash conversion cycle is measured in the number of days. A shorter cash conversion cycle means greater liquidity and therefore less need for expensive bank credits.
Are these indeed the 7 most important financial KPIs, or are there still indicators missing? Let us know via a comment below!