If you run a small business, you know that it’s important to have a good understanding of numbers. Financial data related to your business can help you understand how you’re operating, and what changes you need to make in order to improve your performance. If you want to optimize your business as much as possible and have a deep understanding of how you are performing financially, you should have an understanding of the following essential financial ratios.
The difference between cash and revenue
The money you bring into your business helps it run. However, it’s important to distinguish between cash flow and revenue when it comes to helping your business succeed. Revenue is the amount of money that a business has generated and that is owed to that business, even if it has not been paid yet. Cash is the actual money on hand. Cash can also come into your business in various forms, and it’s not necessarily the amount of money raised by sales (it can be given by donations, investments, etc.)
Financial Ratio #1: Days Sales Outstanding, or DSO
Day Sales Outstanding is an important ratio to understand if you want to know how much money your company has. The ratio is measured by dividing the amount of annual revenue by the amount of money in accounts receivable, then multiplying that by the number of days in a year (365). The Day Sales Outstanding shows you the average number of days it takes for you to collect outstanding receivables, or money that’s owed to you.
Financial Ratio #2: Gross Profit Margin
Another key ratio to understand is gross profit margin. Gross profit margin is the percentage of revenue left over after subtracting the cost of the goods that you sold. Essentially, it shows you how efficient your product creation or manufacturing process is.
How to Calculate Gross Profit Margin
To find it, you take the amount of gross profit you’ve brought in and divide it by your total revenue.
How to Increase Gross Profit Margin
If you want to increase your gross profit margin, there are many strategies you can take. First, you can increase the prices at which you sell your goods. Also, you can also decrease the cost to make them. Finally, you can try selling new goods or services to increase revenue (among other methods).