Here are the financial numbers to keep your eye on as you monitor the health of your business.
If you use accounting software, you likely have access to a wealth of financial reports that offer a window into the performance of your business. However, if you’re like most busy entrepreneurs, you don’t have the time, the inclination, or the training to understand the complex numbers that make up a company’s financial position.
In fact, many small business owners focus solely on what they’re passionate about, skipping over the big picture. Unfortunately, no matter how talented and committed you are to your craft, product, or service, if you don’t attend to the financial side of your business, it’s likely to fail.
Not on our watch though! Let’s take a look at the 7 numbers you need to review every single month to get your profits up and keep them there. Don’t worry, you don’t need to be a certified public accountant (CPA) to understand how to interpret and pull these numbers from key financial statements. Having an accounting software solution will help you run these reports though.
Once you have a clear line of sight on the financial statements that measure your company’s financial health, you’ll be able to make smarter and more forward-thinking decisions.
1. Profit and Loss
You know the expression, “What’s the bottom line?” It comes directly from the profit and loss (P&L) report, also known as a company’s income statement. The ‘bottom line’ is the final line of a P&L statement—the number that shows whether a company made a profit or took a loss.
Profit (also called “net income” or “net earnings”) tells you how much money you’ve earned in an accounting period after expenses have been paid out. It’s most helpful to analyze your P&L regularly (i.e., once a month) so you can:
- Monitor expenses and look for ways to reduce your expenses and thereby increase your profit.
- Identify what times of the year you tend to have less work and make less money so you know when to cut back or ramp up your sales efforts.
- Show your revenue trend. Is it going up or down? Do you need to increase your revenue with sales and marketing, or do you need to charge more for your products and services?
Ultimately, if your business isn’t profitable, or isn’t profitable enough for you to pay yourself what you want, it’s not sustainable. As a small business owner, stay focused on the “bottom line” of your income statements to make sure you’re earning the money you want.
Running a successful business often requires investing in things like equipment, office supplies, transportation, training, advertising, and other operating expenses. Depending on the type of business you run, these expenses can grow fast—and even overtake your revenue.
It’s critical to enter your operating expenses into your accounting software regularly and check these numbers every month. When you take the time to do this, they’ll be included in your P&L statement, which tells you if you’re making or losing money.
Many accounting solutions also include an expense report that shows you the distinct categories you’re spending in. Reviewing your expense patterns will help you decide where you can cut back if you need to.
Your only job with respect to keeping an eye on expenses is to make sure they’re not growing faster than your revenue. The exception would be if you are making an intentional long-term investment, such as hiring a new employee or buying new equipment that will pay off over time.
3. Accounts Receivable
Do you ever wish you could shake a tree and have money fall out? Accounts receivable, a.k.a. A/R, is about as close as you’re going to get.
A/R is really just a fancy way of saying “money I’m owed.” This is the sum of your unpaid invoices, and it appears as a line in your balance sheet, another basic financial report. If your accounts receivable is a big number, you have a lot of money in the treetops.
If you find yourself with cash troubles, take a look at the A/R number in your company’s balance sheet. Late or unpaid invoices are often the culprit of financial distress for small business owners. That’s why it pays (quite literally) to ensure clients pay promptly and keep your cash flowing. Many accounting software tools offer automatic payment reminders and other features to help keep things on track.
Knowing what your A/R numbers are at any given moment will empower you to make better decisions about what you choose to invest in and when.
4. Profit by Client
Not all clients are created equal. Financially speaking, some are much more lucrative than others. The best clients aren’t the ones who pay the biggest fees—they’re the ones who generate the most profit.
It can be exciting to get a big-name client, but sometimes they require you to invest in additional equipment, insurance, travel, and other expenses. So, even though they may be paying more, they’re also costing more. In contrast, some of your smaller clients may not pay a ton but their projects add up to a lot of profit.
Some accounting software solutions offer a revenue by client report. While this financial statement can be eye-opening to see exactly what each client is “worth” to your business, it’s also helpful to take an extra step to determine how much profit they generate.
To calculate this, take the total fees you received from a client and subtract all of the expenses associated with working for them. That’s your gross profit. If you track the hours you spend working with them, divide that net profit by the approximate number of hours you spend on their work. That’s your “hourly wage” for this client.
Compare this wage between clients to see which are most lucrative for you. Focus your marketing on getting more of the clients who are profitable, even if they are not the “biggest” projects. This way you’ll earn the most money with the least time spent.
5. Cash Flow
One of the hardest concepts for small business owners to conquer is cash flow. It refers to the actual cash that’s entering (income) and leaving your business (expenses) over a specific period of time. Your cash flow statement shows how much cash is available at the end of that period of time.
Even if your P&L shows a consistent profit, you can still have a cash flow problem. Maybe you invoiced for a big project, but the payment terms are 60 days, so you won’t have cash in hand for a while. Meanwhile, your expenses may be reasonable based on the income you’re making but if a big investment in equipment is required while you’re waiting for that cash to come in, you’ll end up without enough money to pay for it.
Accounting experts advise checking your cash flow statements regularly so you can properly time your purchases and ensure that your clients are paying swiftly.
6. Item Sales
Want to know how much money you’re making from each item you sell and how many times you actually sell that item? Many accounting software solutions offer this insight through an item sales report.
This is important because it shows you the activity for each of your products or services. Depending on how you set up your accounting software, you may even be able to see how much profit you make on each item. You can also check on what effect discounts on certain products have on their profitability. Using financial statements like the item sales report offers up important information you can use to decide which items deserve most of your time and attention, and which ones don’t.
7. Project Profitability
Some accounting software solutions offer a project profitability reporting tool that tracks the performance of your projects to see how profitable your operating activities are, which can be especially helpful if you have a number of employees working on them. It takes into consideration the time and expenses being tracked to projects by your team members, helping you make better project management decisions in the short term and better business decisions in the long term.
FreshBooks customer Zachary Martz uses the FreshBooks Project Profitability tools to really understand his business and save $2000 every month.
The Bottom Line on Financial Numbers
When it comes to financial numbers, the old adage ‘failing to plan is planning to fail’ sums up everything you need to know.
Like it or not, numbers tell you a lot about a company’s financial performance. They can tell a business owner things like:
- What kind of clients to go after to be most profitable
- How much you need to make on a project or product to make it profitable
- What kind of capital investments are reasonable and affordable
- When to make capital investments in your business
- Which clients owe you money—and when
- What kind of profits you can expect to make based on past performance
- Real-time cash flow
These are important accounting principles that will inform both big and small business decisions. Accounting experts recommend that you read financial statements on the first day of every month, starting with the cash flow statement. This will allow you to adjust your business strategy as needed. And as you get used to analyzing data on a regular basis, you might find additional reports that’ll better help you measure your company’s success.
In the meantime, making these 7 numbers and their corresponding financial statements a priority will pay off in the long run.
This post was updated in May 2022.
Reviewed by Melanie Schroeder, CPA.