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Many people have reviewed an early draft of your business’ end of year financial reviews. However, unless your company has a baseline, it isn’t easy to get an accurate picture of your company’s performance. This is why it is vital to compare the performance of your company over time and against competitors.
How do you conduct a well-rounded evaluation?
A comprehensive benchmarking framework requires calculating ratios that will evaluate the following five elements:
- Growth. The success of your company is often assessed in terms of market share, annual revenue, or total assets. Do you know if your company growing or shrinking? One example of a ratio that describes the changes in your company’s growth would be its year-over-year increase in market share, or it’s annual revenue. Businesses generally want to grow, but keep in mind that there may be strategic reasons to downsize and refocus the core operations of the company.
- Liquidity. Working capital ratios help determine how easily assets can be liquidated into cash. The same ratios also help determine whether company assets are capable of covering current liabilities. For example, the acid-test ratio compares the most liquid available assets (both cash and receivables) to immediate obligations (such as payables, accrued expenses, short-term loans, and current portions of long-term debt).
- Profitability. This ratio determines whether the business is earning money from company operations. Such a determination must take place before decisions can be made regarding changes in working capital accounts, investments in capital expenditures, and financing activities. Larger companies tend to focus on earnings per share. But smaller companies are often more interested in ratios that evaluate gains before interest, taxes, depreciation, and amortization. EBITDA ratios are most helpful because they allow for comparisons between companies with varied capital structures, tax strategies, and business types.
- Turnover. Other ratios, such as total asset turnover (revenue divided by total assets) or inventory turnover (cost of sales divided by inventory), can help determine how well the company manages its assets. Additionally, these ratios also can be stated in terms of average days outstanding.
- Leverage. It is crucial to identify how the company finances its operations — through debt or equity. There are pros and cons to both types of financing. As an example, debt financing is generally less expensive, and sometimes, interest on the debt may be tax-deductible. On the other hand, equity financing can help ensure cash flow for growing the business because investors often will not require an annual return on their investment.
Have you sought input from the pros?
Many companies use an outside accounting firm to compile, review, or audit their preliminary year-end financial reports. These reports are an excellent opportunity to create a comprehensive benchmarking study. JLK Rosenberger can help by identifying comparable companies, providing access to industry benchmarking data, and recommending ways to improve performance for your company in 2020 and beyond. For additional information, call us at 949-860-9891 or click here to contact us. We look forward to speaking with you soon.