As small business owners we measure the success of our business is many ways. Through feedback, client retainment, goal achievements and financially. One way of measuring a business’ success is to measure its profitability.
Profitability measures the ability of a business to generate more total revenue than total expenses. This information can be used alongside other financial information to determine the success, sustainability and financial health of your business.
When considering your business’ profitability you should look at three key financial areas.
Often the importance of cash flow and its impact on a company’s sustainability and success is ignored or not understood by small businesses. One of the most important part of what we do at Surrey Accountancy is to ensure our clients are educated on the importance of cash flow and how to maintain it.
A lack of disposable income is often a cause for many small and medium size businesses to close; that is why it is essential to use cash flow forecasts. By forecasting the cash flowing in and out of your company, there are fewer surprises and greater consideration for what projects you can and can’t accept based on material and related costs.
There are three types of profit to consider – gross, net and operational.
- Gross profit margin
Your gross profit indicates how much profit a business is earning after necessary expenses have been deducted.
- Operational profit margin
Your operating profit is determined by working out your sales against expenses before interest deductions and taxes are included.
- Net profit margin
Your net profit margin is known as your business’ “bottom line”. Your net profit considers all revenue streams and all costs. Your net profit is your total income minus your total expenses.
Your business assets is any resource owned or controlled by a business or an economic entity.
The biggest mistake that small business owners make is to make financial decisions based upon the assets of their business, without considering their cash flow or differing profit margins. Being asset rich but cash poor can lead to a huge amount of problems, and so there are multiple factors to take into consideration when working out if your business is profitable.
How do you work out your profitability?
Financial statements, balance sheets and accounting software all indicate if your business is profitable.
To ensure the accuracy of your financial information, you must make sure that your bookkeeping is up to date and reliable. Be sure not to make common bookkeeping mistakes by reading our blog here.
If you need advice and guidance on your business’ profitability, or want to improve your business’ profit, contact us today at Surrey Accountancy Limited.