4 Financial Metrics to Measure Your Company’s Financial Health

When evaluating any investment opportunity, we always search for one metric which can?help us stack and compare?its?potential?against?peers. However, as any seasoned investor can?relate, there is not one single metric that can?accurately capture both?the past and future?viability of an investment.?The same philosophy is applicable in the case of assessing a company's financial health. As a?business owner, you are always looking for that one key metric that can help you assess the?holistic health of your business. However,?there?are several financial ratios and key metrics?you need to review, and in today's blog post, we will share 4 such key metrics with you.

1. Liquidity

One of the first metrics you should measure to accurately analyze the financial health of your business is your business's liquidity.

In simple terms, a business' liquidity is the amount of cash or assets, in the company that can be easily converted to cash to manage its short-term debt. Measuring your business's liquidity is crucial because before a business can thrive in the long term, it needs to survive in the short term, and liquidity is a key indicator of the same.

As a business owner, you can make use of various metrics to measure the liquidity of your business; however current ratio and the quick ratio, are most frequently used. Among these two, most entrepreneurs find the quick ratio measure, also known as the acid test, to be more accurate as it excludes the company’s long-term debt from its liabilities and inventory from its assets, making the measure more accurate.

Generally, your business' quick ratio must be greater than 1.0, as anything below that is a warning sign and generally indicates that current liabilities exceed assets.

2. Solvency

The next metric you can utilize to measure the financial health of your business is solvency.?Closely related to liquidity, your business' solvency is its ability to meet its debt obligations?over both the?short and long term. Simply put, the solvency rate calculates the relationship?between the company's assets or equity to its long-term debt.

Similar to liquidity, there are a variety of metrics you can measure to analyze your solvency;?however, the general industry standard is to calculate your debt to equity or D/E ratio. The?reason behind the D/E ratio's popularity is that it highlights investors' confidence and?interest in your organization. For instance, if your company has a lower D/E ratio, it indicates?that your company's operations are being financed by shareholders rather than creditors,?which is an advantage because the former doesn't charge you interest.

Although the D/E ratio varies widely across industries, in most cases, a steady downward?trend is an indicator of?your?company's?strengthening?financial health.

3. Operating Efficiency

While multiple metrics measure a company's financial success, its operating?efficiency continues to be the most significant. Simply put, this metric measures your?business' basic operational profit margin after deducting variable expenses such as?production and marketing. Thus, it indicates how well the company's management?can?control costs.

In lieu of this, it is crucial to note that?having good management is crucial to a business's long-term sustainability. The reason is that good management can overcome a wide catalog?of temporary problems, whereas bad management can force even the most successful?organizations to close their?its?doors.

4. Profitability

No matter which metric we use as entrepreneurs to analyze the financial health of our?business, all our hard work comes down to one key metric at the end of the day, and that is?profitability.

Irrespective of the industry you choose?to operate in, your business must attain and maintain?its profitability in the long term. The reason behind this is?–it is only for so long?that a?business?can?survive on the goodwill of its creditors and investors, as only profitability gives?an organization the ability to thrive in the long run.

However, in contrast to popular opinion, a simple dollar figure will only be able to half-heartedly capture the financial health of your business. To assess a business's profitability in?the long run, a good metric to consider is net margin, which is the ratio of your net profit to?total revenue.

The reason behind preferring the net margin metric over a simple dollar figure is that although?a company might report several million dollars in profit, if the company's net margin is only?1% or less, then even the slightest change in marketplace conditions or production costs will?spiral the company into a loss.

Thus, having a greater net margin compared to your peers will ensure greater financial safety?and also ensure that your business is in the best financial position to continue its expansion?and growth.

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Conclusion

Analyzing your company's financial health is a crucial task you must attend to regularly.?However, as you might have guessed by now, executing this, in reality, is easier said than?done.

To make your process easier and more efficient, we at?CrediLinq.Ai?will be launching our latest tool, SME HealthCheck soon which empowers business owners like yourself to measure your business's financial health at the click of a button.

All you need to do is simply upload your last 6 months' bank statement and our proprietary?credit engine will send you a report which will highlight each of the above metrics shared in?today's post and more. Stay tuned!