“Business isn’t what you do for a living. It’s what you can keep.
The basic financial indicators and formulas that will help calculate the profitability of the business. We advise you to regularly use the formulas and check the indicators below.
Net profit or margin
Net profit or margin is how much income you deduct from one sale. It is the difference between how much money you have earned and how much you have spent to earn that income.
Margin calculation formula: ((Income – Expenses) / Income) *100 = % margin
Margin is not the same as the sales markup. The sales margin shows how the bid price compares to its total value.
Formula for calculating markups: ((Price – Cost) / Cost)*100 = % markup
The margin can never exceed 100%, and the markup can be 200, 500 and even 10,000 %, depending on the price and total offer price. The higher your price and the lower your price, the higher your markup.
Most companies try to make a markup as high as possible – the higher the markup, the more income the business earns on each sale.
Your company doesn’t have to make millions or billions of dollars to be successful. If you have enough income to continue your business and work in the plus side, you are successful – no matter how much the business brings.
You can track your financial sufficiency using a metric such as the planned monthly revenue. Since you usually pay employees, suppliers and contractors every month, it is quite easy to calculate how much money you need to pay.
This metric helps to determine if you have achieved enough – if you earn more than your planned monthly income, then you have reached this point. If you don’t, you still have room for growth.
Valuation – assessment of the total value of the company.
The higher the company’s income, the higher the margin, the higher its bank balance sheet – the higher its value.
The higher the value of the company, the easier it is to take out loans, sell more expensive shares and the more expensive it can be sold in case of a case.
Cash flow statement is a document that can be obtained from the bank and analyze the entry and exit of the company’s money.
Balance sheet – a cast of what the company owns and what debts it currently has. The balance sheet always indicates the exact day and uses this formula:
Assets – Passive = Net equity of the company
Assets are the property of the company: products, equipment, shares.
Liabilities are debts for which the company has not yet paid off: loans and credits.
What remains when deducting liabilities from assets is the net capital or value of the company.
Assets = Liabilities + share capital
When a company borrows money, it gets the amount of money borrowed. This money is included in the cash flow statement, and because of the influx of this money, it seems that the company had a very good month, although it happened because of the loan.
If you think about it, the financial condition of the company has not changed: the company has more assets = more cash, but at the same time the company has debts = liabilities. Therefore, the value of the company has not changed.
The asset calculation formula is useful because it reflects this situation. Suppose you start a business and borrow $10,000.
Before you borrowed the money, your balance sheet looks like this:
0 = 0 + 0 – you don’t have any assets, debts and share capital
After you borrowed the money, the balance looks like
$10,000 = $10,000 + 0 – you have $10,000 in assets, $10,000 in debt and 0 share capital.
Both sides of the balance sheet look the same – the balance sheet is always the same. If the numbers are not the same on both sides, you have made a mistake.
Profitability coefficients show whether a business can generate income. The higher your income and the lower your costs, the higher your profitability.
Return rates are margins and returns on assets. The margin formula we mentioned above is the return on assets formula:
Return on assets = net income / total assets
With the help of this indicator you will see what percentage of the invested money was recouped.
The liquidity ratio shows how much business can pay bills. When cash runs out, it is a serious problem. Indicators such as current liquidity ratio and urgent liquidity ratio will help you here.
Current Liquidity Ratio = Current Assets / Current Liquidity Ratio
Urgent liquidity ratio = short-term debt + short-term investment + cash / current debt
These coefficients can easily help you determine how close a company is to bankruptcy, or show how much money the business has that just lies there, and they can be invested in the development or improvement of the company.
Efficiency ratios show how well a company manages its assets and liabilities (debts).
The most common example of its use is the accounting of goods. To account for this, it is necessary to calculate the average number of days that goods are in stock, how long it will take to sell the current amount of goods, and the time it takes to get money from sales. These figures will help you make production and purchasing decisions.
Cost-benefit analysis helps to check whether income exceeds costs. Instead of acting on intuition, estimate the actual cost of your actions.
When you analyze the cost-effectiveness of your actions, you should also include more than just financial costs – for example, business fun can play a big role in deciding whether or not to continue doing so.
An unobvious example of profitability: Google’s renowned cafeterias provide their employees with free, tasty meals 24 hours a day. It seems that this is not justified huge costs, but it is not. By supplying breakfast, lunch, dinner and snacks, the company motivates employees to work as long as possible.
Overhead costs are the minimum amount of resources needed to keep the business running.
The lower your overheads are, the less revenue you need to keep your business running.
Overhead costs include everything you need to run your business – salaries, rent, utilities, equipment repairs.
Fixed and variable costs
Fixed costs – all mandatory payments, taxes, interest on loans, rent, payments on long-term leasing of equipment, security payments, salaries.
Variable costs depend on the volume of production and change with it. These are, for example, the costs of materials and raw materials for electricity.
Fixed costs exist regardless of the value you create. Variable costs depend directly on how much value you create. Understanding costs and their fluctuations is important for successful business management.