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Monday September 22, 2014

Know your numbers

Many of New Zealand’s business enterprises have been established by bold, brave New Zealanders with a dream to turn an interest, hobby or innovative idea into a world-class business.

No matter the career background or area of expertise, one of the most important skills for anyone wanting to turn their dream into reality is being able to understand and interpret financial reports.

Knowing what figures are critical and how these are impacted by business operations may mean the difference between securing investment funding and growing your business, to supporting your struggling business through the forced sale of your home.

Having an accountant work with you on your finances is only one step towards the successful management of your business. As an owner or operator it is your responsibility to know the ‘financial health’ of your business at any point in time.

So, how about we do a quick health check now and run through the most important numbers that you need to know? How many of the following are you able to quickly put your fingers on?

  • Cash Flow Cycle – the time it takes between spending money on raw products, goods or wages until the day that you receive client or customer payment. This is heavily influenced by the payment terms you have in place with both suppliers and clients.
  • Cash Position – how much cash you have on hand at any given time. This is linked to your cash flow cycle. By improving your cash flow cycle, you can enhance your cash position.
  • Work in Progress – at the end of an accounting period, this is how much work is on the clock, or services you have provided that have yet to be paid for by the client or customer.
  • Operating Expenses – the running expenses of your businesses, such as council rates, rent, insurance, power, printing, advertising, bank charges, legal fees, phone and internet, etc.
  • Turnover or Sales – the total of what you sell to your customers or clients during the accounting period.
  • Cost of Goods Sold – what the goods or services that you have sold have cost you to produce or buy.
  • Gross Profit – what you have left over after you deduct the cost of goods sold from your sales (Gross Profit = Sales – Cost of Goods).
  • Net Profit – your sales less all of your expenses (Net Profit = Sales – Operating Expenses)
  • Profit/Margin – this is the difference between your revenue and the cost of goods and services you sold. It can be expressed as a dollar amount or percentage (Profit = Sales – Purchases). For example:
    • Sales                $150
    • Purchases       $100
    • PROFIT             $  50
    • MARGIN          33.33% (50/150 x 100/1 to convert to %)
  • Mark-up – This is the difference between the cost of the goods and services you are selling, and their selling price in order to make a profit. For example:
    • Sales                $150
    • Purchases       $100
    • PROFIT             $  50
    • Mark-up            50%

To demonstrate, consider a Warrant of Fitness for your car. Each warrant To demonstrate, consider a Warrant of Fitness for your car. Each warrant sells for $40 and takes a senior mechanic about 40 minutes to complete. But it costs the garage $10.00 for each WoF sticker and $25 per hour for labour.

  • $16.67 (40 minutes of the mechanics time) + $10 (WoF sticker) = $26.67 cost to garage.
  • $40.00 (sale or cost to customer) - $26.67 (cost of goods and services to garage) = $13.33 profit for the garage on each WoF issued.
  • Profit or Margin = $13.33 or 33.33%

It is important that you have a solid understanding of Your Numbers, but remember these three wise phrases:

Turnover is Vanity – everyday we see business’s whose sales drive is to increase turnover without any regard to why or even if it will be worth their while.  But it could be something to boast about at the pub.

Profit is Sanity – the real reason we are all in business is to make a profit.  We need it every day so we can achieve our goals and look after our families.

Cash is Reality – it does not matter how big your turnover or the level of profit, without cash you are dead in the water.  It is and always will be the life and soul of your business and your need to look after it and monitor it regularly.

If you would like to know more, or work more closely with an accountant on your business finances, contact us now and we can set up a time to talk. It could be the most important call you make today.