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Making a profit is about more than watching the bottom line. There are a number of other figures–often called key performance indicators (or KPIs) in large enterprises–that you should monitor to make sure the financial health of your business is on track. KPIs help you measure whether you have enough cash on hand to operate; can help you identify what aspects of your business you might need to address to hit your goals; and can assist you in determining whether your marketing and promotions are worth the time and expense.
Read on to learn about some KPIs you might find it helpful to track.
1. Profit margin
Type of number: %
How it’s calculated: Subtract your business’s total expenditures from your total revenue. This is your net income. Then divide your net income by your total revenue to determine your profit margin.
Total Income: $100,000
Net income ($) = $100,000 – $80,000 = $20,000
Profit margin (%) = $20,000/$100,000 = 20%
What it tells you: Profit margin tells you how much profit your business made in terms of the total revenue your business has earned. If your profit margin is 20%, for example, that means your business kept $0.20, after expenses, for every dollar that came through the door.
How to use it: To the average person, earning a million dollars in a year might sound great. But business owners know that it’s not just how you make: it’s also how much you keep. Calculating your profit margin helps you understand, in a single number, how much profit your business is generating at various revenue levels (or, seen another way, how much profit your business is generating at various expenditure levels).
2. Average ticket size
Type of number: $
How it’s calculated: Divide the total receipts for a given period by the number of customer visits in that same period.
Last month’s total receipt amount: $31,725
Last month’s total customers visits: 1,410
Last month’s average ticket size ($) = $31,725/1,410 visits = $22.50 per visit
What it tells you: In literal terms, the average ticket size is the average amount a customer or party spends in one visit. This number can tell you how many monthly, daily–even hourly–visits you’ll need to attract on average in order to hit a given revenue goal.
How to use it: Falling short of your revenue target? This number is one tool in your arsenal that can help you begin to understand where to focus your efforts to boost revenues. You might choose to focus on strategies that get more customers through your doors, with an emphasis on acquiring new customers (perhaps with a marketing campaign) or encouraging repeat visits (perhaps with a loyalty program). Or you night choose to focus on strategies that encourage each customer to spend a little more money per visit, like training your sales staff to upsell or putting impulse buys near your register or in your website checkout experience.
Clover customers, be sure to look at this figure in the Clover Insights App. Not only will it calculate your average ticket size automatically, it lets you compare your average ticket size to the same figure for other local businesses in your area, or to similar businesses in different cities.
3. Average daily/weekly/monthly transactions
Type of number: #
How it’s calculated: Divide the total number of transactions by the total number of days/weeks/months in a given period.
Total transactions: 500
Total days in measurement period: 7 (one week)
Average daily transactions: = 500/7 = 71.43 = 71 transactions per day
What it tells you: Average transactions is a figure that reflects the average number of sales your business makes in given period of time. This number is particularly useful when it is tracked over time.
You might observe, for example, that traffic spikes on weekdays or weekends (learn this from average daily transactions); that it is more pronounced during the first and third weeks of the month, perhaps corresponding to paydays (learn this from average weekly transactions); and/or that there is a noticeable difference in traffic depending on the month of the year (learn this from average monthly transactions).
There are other ways you can use transactions depending on your type of business. You might measure average transactions during the school year versus the summertime. If your business is located near a major sports or entertainment venue, it might be useful to measure average transactions on event nights versus non-event nights. Selling ice cream, soup or hot/cold drinks? You might even find it useful to measure your traffic based on the temperature!
Related post: Business problem turnaround: Dealing with slow hours
How to use it: Understanding how traffic ebbs and flows might inspire you to take proactive measures to increase traffic to your business during slow periods, like switching up your inventory when the season changes, or offering specials during historically slow times to get more people through your doors.
This data can also help you make decisions about when it might make sense to staff up or down, or how to manage your cash flow so that you have cash on hand when traffic–and thus revenues–will be low.
Related post: Growing pains: Managing cash flow
4. Conversion rate
Type of number: %
How it’s calculated: Conversation rates can be applied to a number of different contexts in the life of your business–more on that in a moment. In general, this number refers to how many people take an action versus how many people were eligible to take an action. Let’s look at a couple of examples so that you see what we mean:
Digital coupon downloads: 100
Digital coupon redemptions: 20
Digital coupon conversion rate: 20%
Weekly email offer clicks: 861
Weekly email offer sales: 17
Weekly email offer conversion rate: 2%
What it tells you: Conversion rate reflects how many prospects turn into actual customers. In a nutshell, it indicates the effectiveness of your outreach and/or the desirability of your deal.
How to use it: This figure is particularly useful for helping you to measure your marketing and promotion activity. If some coupons have higher conversion rates than others, you might draw meaningful conclusions about:
- Relative desirability of different deals
- Perceived value of the discount amount or promotion
- Effectiveness of redemption criteria
- Positioning of the sale, deal or item
- Effectiveness of the audience or placement: is the offer, pricing and/or promoted item or service ideal for the website, online targeting or mailing list where the offer was placed?
5. Average customer lifetime value
Number type: $
How to calculate it: This number is the amount of money the average customer will spend over a lifetime of transacting with your business. Arriving at this figure requires you to use a mix of real business data and sound assumptions. There are a number of methods for estimating this figure. Here’s one of the simpler ones:
Step 1. Calculate average customer value per month: average ticket size per customer (see average ticket size above) X average visits per customer each month
Step 2. Estimate the average customer lifespan, or how much time you think will elapse between when a customer starts visiting your business and when they will stop. This can be a tough number to estimate, but not always. For example, if you run a pizza shop located on a college campus that serves mostly college students, you might reasonably estimate average customer lifespan to be 4 to 5 years.
Step 3: Calculate the customer lifetime value = average customer value per month (Step 1) X 12 X your estimate for the average customer lifespan (Step 2)
Let’s break this down using our college pizza restaurant to illustrate the calculation:
Average customer value per month = $8 average ticket size per customer * 3 average visits per customer each month = $24
Average customer lifespan = 4.5 years
Lifetime value per customer = $24 X 12 (months in a year) X 4.5 = $1,296
What it tells you: Lifetime value is a measure of how much money the average customer will ever spend at your business. The average customer at our campus pizza shop, for example, will spend $1,296 over the course of their time as a customer.
How to use it: This is a great number to help you determine reasonable marketing costs, and the effectiveness of your marketing programs. If your average customer will spend $1,300 with your business over a lifetime, a $1,500 advertising buy that nets one customer will have clearly failed.
But seen another way, this number might also inspire you to be more generous with your marketing budget. If your average customer will spend $1300 with you in a lifetime, but only $24 in the first month, then spending $50 to acquire them is not a failure–especially if they’re a freshman in our campus pizza shop example.
Related post: Overhauling your loyalty programs: beyond freebies
Without understanding the potential lifetime value of a new customer, you might mistakenly conclude that your marketing has failed in the first month, when it fact it will pay dividends over the customer lifetime.
6. Customer acquisition cost
Type of number: $
How to calculate it: Advertising/promotion/PR budget divided by total customers acquired as a result of those actions.
Total marketing budget: $1,000
Total customers resulting from marketing: 20
Customer acquisition cost = $1,000/20 = $50
What it tells you: This number tells you how much money it cost for you to attract one new customer on average.
How to use it: Use this number to determine whether your marketing budget is sensible. A profitable marketing campaign will incur a customer acquisition cost that is a fraction of that customer’s lifetime value. It’s also a reminder that if you’re marketing to promote long-term business growth (as opposed to specific campaigns or events), you should avoid constraining your view of the effect of your marketing to a month or two–unless that’s the approximate lifespan of your customers.
7. Spend rate (burn rate)
Type of number: $
How to calculate it: Divide average spend over a period of time by the total number of that unit of time. Put plainly:
Total spend: $10,000
Total days: 30
Daily spend rate/burn rate: $333
Total spend: $120,000
Total months: 12
Monthly spend rate/burn rate: $10,000
What it tells you: This number indicates the rate at which you’re burning through your capital.
How to use it: Put simply, if you understand this number, you can determine how long it will be until you run out of cash or, put another way, how long you’ll have before you need to make a profit. Once you are profitable, it’s still important to keep track of your spend rate—your average costs in a month—to make sure you are earning enough to stay in the black and turn a profit.
8. Revenue growth rate
Type of number: $
How to calculate: Subtract your total revenue in the older year from the total revenue in the more recent year. Divide the result by the total revenue from the older year. You can also do this calculation month-to-month, although your results may be deceptive due to seasonality. The yearly calculation will smooth over these variations. Looking at yearlong spans will also enable you to compare the same months from different years to isolate year-over-year growth.
Revenue last year (more recent year): $1,500,000
Revenue year before last (older year): $1,250,000
Revenue growth rate: ($1,500,000-$1,250,00)/$1,250,000 = 0.2 = 20% year-over-year growth rate (note following this formula exactly will yield a negative growth rate to reflect any year-over-year declines)
What it tells you: Understand how raw sales are trending over time.
How to use it: If you spot year-over-year declines–for example, revenues this September were 10 percent lower than revenues last September–you should look deeper into your data to understand whether this is just a temporary decline (and what drove it), or whether you should brace yourself for lower revenues indefinitely.
9. Revenue forecast
Type of number: $
How to calculate it: In essence, you’re summarizing previous revenue trends in your business, including historic monthly revenue and revenue growth or decline over time, and using that data to make an educated guess as to how much revenue your business will earn in the future. Revenue forecasting models can be incredibly complex and take into account variables like seasonality and external market conditions.
For example: Your corner cafe has earned $35,000 per month for the last 12 month. You might apply a modest growth rate to that number to estimate your revenue for next year. But a corporate anchor tenant is scheduled to move into a brand new high-rise office tower across the street the next month. That fact might have a more significant impact on revenue than your historic performance the previous year.
Now imagine that same office tower includes a ground-floor coffee chain. This fact might affect your revenue further still.
Accounting and business analytics tools, such as Clover Insights, can help you quickly look at your historical sales information, and your current average daily revenue, and estimate how much you’ll make this month or this year.
What it tells you: This figure gives you a sense of how much your business can expect to earn in the future
How to use it: Use this number to help you make educated decisions about your expenditures and predict your future profitability. This number can also help you make longer-term decisions about details like staffing, budgeting and inventory. Be attentive to whether your actual revenue deviates significantly from this number, and why. If you understand this, you may become more adept at making projections in the future.
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[Image: Surf Lessons by Keoni Cabral on flickr]