But what is financial performance anyway? Every industry has its own benchmarks, metrics and ratios which can tell you about how a business is performing. For small businesses, financial performance indicates how well you are investing your capital (or cash) and generating revenues. In addition, you’ll want to keep track of your bottom line to ensure you are generating profit, which is simply what is left after your expenses. So, you’ve got two areas of focus, top line (revenue) and bottom line (profit).
But…really you want to be laser-focused on the bottom line because you’d always want to increase your profit and would do so even without increasing your revenue. These are pretty basic concepts. Every small business owner knows that you want to keep your expenses minimized to maximize profits. No MBA required.
What gets a little tricky is the concept of cash flow. Cash flow is the net amount of cash coming into an out of a business. You make money, you spend it. No problem. Well, not exactly.
My credit card processing company has a two-day settlement period, which means I have to wait two days to get my money from credit card sales deposited into my account. And if there is a bank holiday on Friday or Monday, then I have to wait that extra day as well. Pretty much all of my sales are from credit cards. Does anyone carry cash anymore?
So…what if I need to process payroll, but I’m still waiting for money?! That’s where you have to be smart and MANAGE your cash flow. It’s critical to understand your expenses, when they occur as well as when cash comes into your account—hopefully they match up. If not, then you need to make sure you have a cash cushion. How big should your cash cushion be? It depends on how large the gap is between when you have to pay cash out and when the cash comes in. But for me, I like to keep at LEAST enough cash around to make one payroll and both of my rent payments—just in case.
I often think that I own and operate two separate businesses. I do own two Pure Barre studios, but what I mean, is that selling our Pure Barre classes requires a totally different business strategy than selling workout clothing and apparel. It’s like I have two separate businesses under one umbrella.
I bring this up because when measuring the financial performance of your business, it’s important to look beyond the grand totals and actually break down each separate area of your business. You might find one business area is incredibly profitable, but another actually sucks profit away from the first if managed improperly. If you simply looked at the total, however, you might not realize the need to make changes to improve.
You might be wondering what makes selling Pure Barre classes so much different from selling clothing? Cost of the sale in relation to the revenue—or margin.
For example, the cost of having a class really is just what I’m paying my teacher to teach the class. Super high margin. And as an added bonus, all of the clients taking the class have paid in advance of experiencing the service provided. Love it!
However, the cost of selling clothing is a little more involved. First I have to pay for the clothes (cost of goods sold). Then they ship (usually from California, which is about 1 week via ground shipping). Then we have to enter them into inventory (maybe an hour, maybe an afternoon). Then they get sold which sometimes happens right away if the clothing is really cute or there is anticipation built up to purchase. But sometimes it could take as long as several weeks or a month. Do you see the issue here? I’ve already paid for the merchandise and by the time I sell it at a minimum I’m out that cash a week at the maximum over a month. And even after I sell, I still have to wait an additional two days to get the money into my bank account.
This is where cash management really plays a role in the financial success of my business. If I have to pay my bills with the revenues from clothing sales, I have to make sure it’s hitting my account in time. Also, my vendors are trying to manage their cash flow as well so they usually send me my orders at the end of the month ensuring that they get to book their revenue when they need it. This means I usually book the expense of buying the clothing in the month before I actually sell it. Tricky.
How do I make sure that I have enough cash to pay my obligations? I work to keep my reoccurring membership payments for classes equal to the amount of my payroll expense and my fixed expenses, which are the expenses I have all the time and won’t typically change, like rent, utilities, insurance or carpet cleaning. If I keep all monthly reoccurring payments equal to my most critical expenses, then I won’t run into a cash crunch when I’m purchasing clothing.
When I evaluate the financial performance of my business, I’m looking at how many clients I have on reoccurring memberships. I’m also looking at how fast we can turn our inventory. And I’m keeping a close eye on any expenses that are larger than usual or not typical each month. Evaluating each of these things ensures I am managing my cash flow and it stays positive. Because after all, cash is king. And I’m sure my employees wouldn’t be too keen on not getting paid or my landlords for that matter.
I’m heading to one of my most favorite days of the quarter, Growth Club, on Friday. I’ll get to spend the whole day focusing on my business and setting my goals for Q1 2017. Next week I’ll write about the importance of goal-setting AND rewarding yourself for meeting your goals. I’ll also discuss my goals for 2017—if I write them down, I’ll be more likely to meet them!
Until then, stay on your toes!