Financial Goals

Checklist Guide

ABOUT

Gross profit is the profit a business makes after deducting the costs directly associated with making its products or providing its services. It’s a measure of two critical performance indicators:
1. Is the business making enough sales?
2. Is the business making enough margin on its sales to justify the effort involved and generate a return on the activities?

That’s why Gross profit is one of the most important parts of any business financial report. Without enough gross profit, the business will not be able to sustain the fixed costs (overheads) of running the business or give sufficient return to the investors or owners of the business.

Ineffective understanding of gross profits is a key reason why so many small business owners can’t afford to pay themselves.

 

1. We set annual and monthly gross profit goals and we assess our progress against those goals on a regular (at least monthly) basis.
Why is this item important? 

Gross profit measures the results of the core operations of a business, whether that is the sales and manufacture of goods or the provision of client services. It is the profit a business makes from sales revenue after deducting the costs directly associated with making its products or providing its services, before overheads. Without enough gross profit, the business will not be able to sustain the fixed costs (overheads) of running the business or give sufficient return to the investors in the business. It is critical to set monthly gross profit targets and report against these to review progress and take prompt remedial action where this is required. 

 

 

How can I tell if I meet this item in my business? 
  • Do you split your wage and related payroll costs between direct production/service staff and sales and administration staff?
  • Do you calculate work in progress (if applicable) at the end of each month where costs have been expended on work where a sales invoice has not yet been raised?
  • Do your materials expense each month relate to items consumed on jobs invoiced, rather than stock purchased to replenish stock?
  • Do you ensure that sales each month are accurately matched with the related costs of production/service? Where the timing happens in different months, gross profit cannot be accurately measured. 
What do I need to do to meet this item?  
  1. Keep account of inventories, with purchases adding to stock and despatch of finished goods reducing stock. This will greatly assist with timing, so that actual cost of sales match revenues in the same month.
  2. Use a system which records production costs by job/batch (materials and time), which will provide accurate cost of sales.
  3. Measure work in progress – this is often a subjective issue which requires management time, but without it you may be guessing whether or not your business is profitable.
  4. Ensure that your accounting system reflects the cost allocations used in your work management system – which will allow cost variances and updates to be calculated more easily.
  5. You will need a competent bookkeeper as a minimum to help you analyse costs appropriately. Depending on the size of your business, you may also require a management accountant. These resources can be contracted in for much less than the cost of a full-time employee.
2. We know the overall level of sales needed to achieve our profit goals.
Why is this item important? 

Setting a sales target helps a business to plan for success. If you know your gross profit margins, it is possible to work back from your profit goal to calculate the required level of sales. Say you want $250,000 profit, your overheads are $1m and your gross profit margin is 50%, you will need $2.5m in sales to achieve this profit. Now you can plan to achieve the required level of sales and maintain gross profit at 50%. 

 

 

How can I tell if I meet this item in my business? 
  • Do you set sales budgets for your business, broken down by month and reflecting seasonal trends so that they are as realistic as possible?
  • Do you set targets for your sales team, with incentives to ensure they achieve the sales goal?
  • Does your business have an annual budget or rolling forecast to set the level of sales, gross profit and overheads required by month to achieve the required profit? 
What do I need to do to meet this item?  
  1. Prepare annual budgets or 12-month rolling forecasts which are reviewed at the end of each quarter.
  2. Review sales progress against targets each month and take remedial action where necessary.
  3. You will need a competent management accountant, finance manager or chief financial officer to help you with this process. Contact one of our Finance Managers who can assist you to engage these resources on a part-time basis which may be more cost-effective than employing full-time staff.
3. We know the unit volumes which must be produced to achieve our targeted sales goals.
Why is this item important? 

Financial reports represent the results of activity occurring in business. In a similar way, budgets reflect activity which is required to occur in the future. Sales dollars are no good without breaking that figure down into its constituent sales price x volume. Knowing the required volume leads to further activity in the production or purchasing departments to ensure that the required units will be available. 

 

 

How can I tell if I meet this item in my business? 
  • Do you break down sales budgets into volumes for the different products or services sold by your business? Failure to do so will hamper your planning for production, purchasing and staff resources.
  • Where the mix of products/services sold in your market changes, are you able to alter your volume projections to allow your internal processes to reflect this change?
  • In your monthly reports, do you compare actual volumes with budget volumes by product/service? This will help you to explain variations in revenue and costs of sale. This analysis may help to identify supply problems which must be dealt with. 
What do I need to do to meet this item?  
  1. Prepare annual budgets or 12-month rolling forecasts which are reviewed at the end of each quarter.
  2. Review volume progress against targets each month and take remedial action where necessary.
4. We know the gross profit which will be made by our individual product or service groups.
Why is this item important? 

As a business grows, it expands its offering of products and services. These individual offerings can have widely varying sales prices and gross profit margins. It is important to understand the gross profit margin of each of the items sold by your business. To take an extreme example, you may have a $1000 product A which sells easily at 25% gross profit but requires high administration support due to the volume sold. Your alternative product B is more complex and sells for $10,000 with a gross profit of 40% – you are the only supplier with the skills to support this product. You could focus on selling 100 of product A, or just 10 of product B. Both results are revenue of $100,000, however gross profit on product A is $25,000 and on product B is $40,000. You would be more likely to focus on product B. 

 

How can I tell if I meet this item in my business? 
  • Does your business use a system which records production costs by job/batch (materials and time), which will provide accurate cost of sales per unit or job?
  • Do you break down sales results by product or service?
  • With the above figures, you should be able to see the gross profit by product or service. 
What do I need to do to meet this item?  
  1. If your business is complex enough, you may need to purchase a system which assists you to record sales and direct costs by individual product or service.
  2. These systems are usually a component of business software which helps you to run the whole of your business more efficiently. This can involve a major change in the way your business runs, and you may need to bring in outside expertise to help you implement the system. 

You may want to ask one of our Finance Managers for help in finding and assessing the right system for your business.

5. We ensure we have the physical capacity to produce or deliver the targeted volumes to achieve our profit goals.
Why is this item important? 

It is all very well to set a sales target, but does the business have the capacity to carry out the work required. What is the maximum units which a factory can produce in a month? How many staff are required to meet targeted service levels? Does the increase in volumes require new machines? Or even a bigger factory or offices? What skills are required by new staff and how long will it take for them to come up to speed in your organisation? 

How can I tell if I meet this item in my business? 
  • Do you measure machine output – set up time, units per hour in running time, maintenance time, down time? Can improvements in machine utilisation be made?
  • Do you measure staff productivity – billable revenue per hour, billable time as a percentage of hours paid? Can this be improved?
  • If new machines are required, is there space available in the factory? Can the factory layout be improved to create space? What options are available if a new factory is required?
  • If additional office staff must be taken on, what is the physical space available in the building? What is the company capacity to induct and train these staff?
  • Does the business have spare cash available to purchase new equipment, increase finance payments, pay new staff or increase rent payments before the benefits of these changes are realised in increased sales and cash received from customers? There will be a time lag between making these investments in people and assets and increasing sales. 
What do I need to do to meet this item?  
  1. If the measurements of output outlined above are not in place, these must be put in place before any changes are made to increase physical capacity. A good management accountant or Finance Manager may reveal areas of poor performance which can be improved without spending more money.
  2. With good measurement of current performance, this will provide a basis for financial modelling of the planned changes to physical capacity. This will ensure that changes can be made at the appropriate time, as volumes increase, and that performance targets can be set to ensure that the business delivers the required volumes.
  3. Financial modelling of cashflow requirements will ensure that the appropriate loans can be negotiated in advance of new asset purchases or increase in working capital requirements. 

You will need a competent management accountant, finance manager or chief financial officer to help you with this process. Contact one of our Finance Managers who can assist you to engage these resources on a part-time basis which may be more cost-effective than employing full-time staff.

6. All of our financial and operational data are kept up to date (at least monthly) and we can check at any time our profit, sales, expenses, cash flow and operational measures.
Why is this item important? 

A good manager must keep his finger on the pulse of the business. Regular reporting will assist this process. As a business grows, the owner will delegate more responsibility to other managers and reports enable him to keep them accountable. Good financial reporting will show:

  • Sales – historical trends, orders in the pipeline
  • Gross profit – trends in % margin by product or service, or the impact of changes in product mix
  • Overhead expenses – unexpected changes in expenses
  • The reason for cashflow movements – level of debtors, level of creditors, investments 

Apart from the financial data, there are other operational measures to show how well the business is running:

  • Labour utilisation
  • Machinery utilisation
  • Units per hour
  • Billable hours
  • Staff turnover 
How can I tell if I meet this item in my business? 
  • Any business should at least have a basic profit and loss report and cashflow movements report each month.
  • Any financial reporting is useless unless the underlying accounting data is accurate – this requires matching of sales and related cost of sales into the time period where the service was provided, properly measuring inventory levels and work in progress, splitting operational costs into cost of sales (rather than overheads), spreading prepaid costs across the periods they relate to and accruing costs which have been incurred but not invoiced.
  • As the business grows, it should expand its reporting along the lines shown above. The type of reports will vary by business. 
What do I need to do to meet this item?  
  1. You will need a competent bookkeeper and management accountant as a minimum to prepare financial reports. Depending on the size of your business, you may also require a finance manager. These resources can be contracted in for much less than the cost of a full-time employee.
  2. If your business is complex enough, you may need to purchase a system which assists you to record sales and direct costs by individual product or service.
  3. These systems are usually a component of business software which helps you to run the whole of your business more efficiently. This can involve a major change in the way your business runs, and you may need to bring in outside expertise to help you implement the system.
7. We know the ideal mix of products/services to achieve the highest level of gross profit.
Why is this item important? 

A business may be constrained in its size for a number of reasons:

  • The owners want to limit its size so that they can manage it themselves
  • The owners do not want the involvement of outside investors
  • Limited funds available
  • The business is recovering from losses incurred in prior years 

In this case, the business should focus on the activities which give it the best return for its efforts. Knowing the gross profit by product/service will enable it to calculate the ideal mix to maximise gross profit. 

How can I tell if I meet this item in my business? 
  • Does your business use a system which records production costs by job/batch (materials and time), which will provide accurate cost of sales per unit or job?
  • Do you break down sales results by product or service?
  • For the items which give the highest gross profit, are you sure that potential sales increases can be achieved – new customers, value add to existing customers? Demand may already be present, and you have not created the capacity to meet it.
  • Do you have the capacity to increase volumes in these high gross profit products – machine time, labour skills, raw material or component supply? Would this capacity be available if the lower gross profit lines were dropped? 
What do I need to do to meet this item?  
  1. You will need a good management accountant and finance manager to provide the base data and analysis to prepare the calculations for maximising gross profit. These resources can be contracted in for much less than the cost of a full-time employee.
  2. If your business is complex enough, you may need to purchase a system which assists you to record sales and direct costs by individual product or service.
  3. This activity will require input from your managers in sales and operations to provide information such as potential sales increases, upper limits of production/service.
  4. The accountants will be able to produce several scenarios for review to enable a decision to be made with confidence. 

Contact one of our Finance Managers who can assist you to engage the finance resources you may require on a part-time basis.

 

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