Five numbers you need to know

• Stephen Craft
• 19 November 2008
• Page 1 of 2 : single page

You can’t manage what you can’t measure. Sure it’s a cliché, but clichés become clichés because they’re true.

If you don’t count the number of prospects coming into your business, how do you know if your marketing is working?

If you don’t know how many of those leads are converted to sales, how do you know if your sales team is doing its job? And, if you don’t record client retention rates, how will you know if poor customer service is sending customers out the back door?

By tracking the key numbers in your business, you can get a real insight into where it’s going and how quickly.

Communicate those numbers to your staff in the form of targets and key performance indicators and you have a powerful management tool that can unite your team and get everyone working towards a common goal.

It’s the difference between being in control of your business and letting your business control you. So here are five numbers that every business owner should know.

1 Days sales outstanding

Also known as debtor days and accounts receivable days, days sales outstanding (DSO) tells you how long on average it takes you to get paid after you’ve issued an invoice.

If you give credit, it’s a powerful number that reveals a lot about the efficiency of your invoicing processes. It can also act as a warning that you could be heading into cashflow difficulties.

Here’s how you work it out:

Days sales outstanding =	Total receivables outstanding	x Number of days in period
	Total credit sales (over the period)

For example, if you have annual credit sales of $547,500 and $60,000 in accounts receivable, then:

 

Days sales outstanding =	$60,000	x 365	= 40
	$547,500

Which is bad news if your terms of sales are 14 days!

Track your DSO religiously and then drive it down. Even if your sales increase, your DSO should stay the same.
If it’s getting higher, you need to work out why, then take action to get it under control.  Try improving your invoicing, negotiating better terms with key customers or invoicing for progress payments synchronised with your client’s payment cycles. This can work a treat if your client’s processes are less flexible than yours.

2 Break-even point

Wouldn’t it be great to know how many sales you need to make to cover your costs? Or the exact point in each week when you’ve stopped working for your staff and suppliers and started working for yourself? That’s why your break-even point is a handy number to know.

Your break-even point is the point at which revenues (the income from your sales) exactly cover your expenses. You need to start by calculating two other numbers:

• Gross profit margin. Sometimes called the contribution margin, this is the percentage of each sale that’s left over after the costs of that sale have been covered. It equals your total sales minus your variable costs, expressed as a percentage. Say you’re selling a toy for $100 and that toy originally cost you $60. The gross profit is $40 and the gross profit margin is 40%.
• Fixed costs. These are the costs that you have to meet, no matter what. They usually include wages, rent, leases and administrative costs, while excluding the variable costs of sales. Let’s imagine your fixed costs are $100,000 a year.

Once you know those numbers, you can work out how many sales you need to make to break even:

Break-even point =	Fixed costs
	Gross profit (contribution) margin

So, using our toyshop example:

Break-even point =	$100,000	= $250,000
	40%

In other words, you need to sell $250,000 worth of toys to break even each year. That’s 2,500 toys or just under 50 toys a week. So if you’re averaging 15 toys a day, you start working for yourself sometime after lunch on Thursday.

Break-even analysis can be a powerful management tool, because it helps you work out:

• The profitability of your product
• How far sales can drop before you start making a loss
• How many units you need to sell before you start making a profit
• The effects of changing your price or sales volume
• How much more you have to sell at current price levels to cover increased costs

3 Margins

Let’s say you’re the toyshop owner from the last example and you have a great new product. It costs you $100 per unit and you know from your break-even analysis that you need to make a margin of at least 40%. What’s the lowest price you can sell it for?

If you said $140, you just reduced your margin to 29%!

The right answer is $166.70, since a profit of $66.70 on a $166.70 sale gives you a margin of 40%. In other words, to get a margin of 40%, you need a mark up of 66.7%.

So that’s the first trick: don’t confuse margin with mark-up. It’s easy to get them mixed up, especially when making pricing decisions. Remember, margin is a percentage of the selling price:

Margin =	Gross profit
	Sales

While mark-up is a percentage of the cost price:

Mark-up =	Gross profit
	Cost

It’s important to know which of your products and services have the highest margin so that you can make the most of them. That might mean putting them next to the cash register (if you’re a retailer) or highlighting them in your marketing materials.

Adjusting margins even slightly can be the difference between an ordinary year and a great one. If you’ve got a high-volume product or service, even increasing your margin by as little as 1% could make a big difference to
your bottom line.