The Finance Gem 💎 Week #37: Financial Health, Costs and Cash Flow KPIs

Welcome to a new edition of The Finance Gem 💎

weekly strategic finance gems to accelerate your career and grow your business

Newsletter | Masterclass | Shop

• 55 Excel Features You Probably Didn’t Know

• 20 Cost KPIs

• How to Assess the Financial Health of a Business

• 20 Cash Flow KPIs You Should Know

• Chief Operating Office vs. Chief Finance Officer

Let’s dive in!

• If you’re interested in Promotions, Private Sales and Free Finance Webinars, add your name to this list.

• New pricing options are available for The Cash Flow Masterclass to make it more affordable than ever to get strategic cash flow management education. You can now choose between an upfront payment, a 2-month payment plan and a monthly subscription.

• The Finance Gem 💎 Referral Program is here - share this newsletter with your network and earn great rewards! Scroll down to find out more!

• Reading for the first time? Please Subscribe here.

➡️ If you’re already proficient in Excel, these will take your game to the next level.

➡️ And if you’re still learning your way around, these will show you what’s possible.

🎯 Here’s a snapshot of those that made the list.

➡️F5: Activates the "Go To" dialog box.

- Enables users to directly jump to specific cells, ranges, or named areas, streamlining navigation in extensive sheets.

➡️Watch Window: Tool for monitoring specific cell values in real-time.

- Ideal for observing crucial values, especially across different worksheets or workbooks.

➡️Named Ranges: Provides a feature to assign names to cells or ranges.

- Improves formula readability and aids navigation, especially in large sheets.

➡️Forecast Sheet: Produces visuals predicting future data based on past data.

- Useful for planning and trend analysis.

➡️Power Query: Enables extraction, transformation, and loading of data from a plethora of sources into Excel.

- Streamlines data integration and cleanup.

➡️Tables (Insert Table): Structures data to enhance readability and analysis.

- Offers better data organization and easier formula implementation.

➡️Flash Fill

- Description: Intuitively fills in values by identifying patterns.

- Reduces manual data entry efforts.

➡️Group/Ungroup Rows and Columns: Organizes rows/columns into structured levels.

- Improves sheet readability, especially in large datasets.

➡️Freeze Panes: useful to scroll up down/left right while continuing to see table headers

- Locks specific rows or columns, making

➡️Speak Cells: This feature reads out the contents of a selected cell or range.

- Helpful for those with visual impairments or when proofreading numbers.

➡️Hidden Formulas: Protects formulas in cells, making them invisible in the formula bar.

- Secures sensitive or complex formulas from being tampered with.

➡️Text Orientation: Adjusts the angle or direction of cell text.

- Enhances readability and allows for better data presentation.

➡️Data Validation Circle Invalid Entries: Marks cells containing data that violates validation rules.

- Quickly identifies and rectifies data errors.

➡️AutoSave for Cloud File: Auto-saves changes for files stored in cloud locations.

- Protects your against data loss and ensures the most recent work is saved.

Download a copy here:

Cost of Goods Sold (COGS) 

COGS = Direct Materials + Direct Labor + Manufacturing Overhead

COGS = Opening Inventory + Purchases - Ending Inventory

🎯 Your direct costs associated with producing a product or delivering a service, expressed in absolute terms or as a percentage of revenue

Operating Expense Ratio:

Operating Expenses / Net Sales x 100

🎯 Evaluates how much of the total sales is consumed by operating expenses.

Variable Cost Ratio:

Variable Costs / Sales x 100

🎯 Assesses the proportion of sales that is consumed by variable costs.

Fixed Cost Ratio:

Fixed Costs / Sales x 100

🎯 Evaluates the proportion of sales that is consumed by fixed costs.

Direct Labor Cost %:

Direct Labor Costs / Sales x 100

🎯 Measures the percentage of sales that goes towards compensating the labor directly involved in producing a product.

Sales & Marketing Ratio:

Sales & Marketing Expenses / Sales x 100

🎯 Indicates the percentage of sales spent on sales and marketing activities.

Research & Development (R&D) Ratio:

R&D Expenses / Sales x 100

🎯 Measures the percentage of sales invested in research and development activities.

General & Administrative (G&A) Ratio:

G&A Expenses / Sales x 100

🎯 Evaluates the percentage of sales consumed by general and administrative expenses.

Inventory Turnover:

Cost of Goods Sold / Average Inventory

🎯 Indicates how many times a company's inventory is sold and replaced over a period.

Days in Inventory:

365 / Inventory Turnover

🎯 Measures the average number of days items stay in inventory before being sold.

Depreciation Ratio:

Annual Depreciation / Total Fixed Assets x 100

🎯 Assesses the annual depreciation rate relative to the total value of fixed assets.

Maintenance Ratio:

Maintenance Expenses / Total Fixed Assets x 100

🎯 Evaluates the proportion of the value of fixed assets that is spent on maintenance.

Markup Percentage:

(Selling Price - Cost Price) / Cost Price x 100

🎯 Measures the difference between the cost of producing a product and its selling price.

Working Capital Financing Cost:

Short Term Borrowing Interest Cost / Total Interest Cost

🎯 Indicates the proportion of interest cost incurred to finance working capital assets

Variable Costs Ratio:

Variable Costs / Revenue x 100

🎯 Assesses the proportion of Revenue that consists of variable costs.

Total Depreciation Expense:

Sum of Depreciation for All Depreciable Assets

🎯 Represents the total depreciation expense for a given period.

Customer Acquisition Cost (CAC):

Total Sales and Marketing Expenses / Number of New Customers Acquired

🎯 Represents the cost to acquire a new customer.

Overhead Rate:

Total Overhead Costs / Total Direct Labor Costs

🎯 Measures the overhead costs relative to the direct labor costs.

Average Cost of Equity

Cost of Equity (Re)=Risk Free Rate + Beta coefficient x Market Risk Premium

🎯 The return that equity investors expect to earn on their investment in a company

Average Cost of Debt

After Tax Cost of Debt (Rd)=Interest Rate on Debt × (1−Tax Rate)

🎯 Weighted average interest rate on all the company's outstanding debt

Knowledge is Power, so learn the basics of financial analysis and empower yourself to make better decisions in the world of Finance and Accounting.

☑️If you’re an accountant or finance professional, this will help you understand the key underlying drivers you should monitor and manage as you analyze financial performance results

☑️If you're a manager, this will help you better understand your organization’s capital allocation priorities, which will help you align individual and organizational goals across your team and maximize your effectiveness.

☑️If you’re an employee, this will help you better understand the priorities and performance drivers of your organization, so you can make better decisions for your own professional and career goals.

☑️If you’re an investor, this will help you better understand the risk levels underpinning management decisions, the drivers and sustainability of the business cash flows, and whether an investment aligns with your strategic objectives.

☑️If you’re an owner, this will help you make more informed decisions and allocate resources in your company more effectively.

Here are my recommended 4 Simple Steps to Assess the Financial Health of a Business:

1️⃣ Analyze the Balance Sheet  

Objectives: evaluate liquidity, solvency, efficiency and asset values to determine the business overall financial health, risk-return profile, capital structure, leverage capacity.

2️⃣ Analyze the Income Statement

Objective: evaluate profitability and operating leverage from Gross Margin to EBIT and NOPAT (EBIT x (1-tax)) to determine the business ability to sustainably generate sufficient revenue to cover expenses, earn a profit, as well as have the financial flexibility to withstand periods of slower economic activity.

3️⃣ Analyze the Cash Flow Statement  

Objective: evaluate sources and uses of cash, to assess the business ability to generate sufficient operating cash flow to finance operations, fund debt repayment and invest in growth.

4️⃣ Perform a Full Ratio Analysis

Objective: use in conjunction with trend (horizontal) analysis and common size (vertical) analysis, to understand business profitability, liquidity, solvency, efficiency, debt servicing capacity, and cash flow generation ability to meet strategic objectives.

🎯 Remember that context can fundamentally alter how the financial analysis tells the story.

🎯 For informed decision-making and strategic planning make sure to:

➡️ Identify the ratios that fit your business objectives, both internal and external.

➡️ Tailor financial analysis and benchmarking to the business and its individual situational factors (industry, geography, size, etc.).

➡️ Track ratios over time to identify rends and inform strategic planning

Your Business grows with Revenue and ends with Cash Flow.

Here are 20 Cash Flow related metrics to monitor:

1. Sales Revenue Forecast:

🎯 The revenue you expect to generate y/y from normal business operations (e.g. from sales of products and services)

2. Sales Revenue Budget to Actuals:

🎯 A comparison of the revenues you budgeted for the period against those you actually achieved, typically broken down by product or service line, and including variance analysis

3. Sales Pipeline:

🎯 A list of your current sales opportunities in the process of being closed, together with their individual sales values and their probability of closing during the period.

4. Sales backlog:

🎯 A list of your signed sales deals currently in process of execution (i.e. future revenues)

5. Gross profit:

🎯 The amount of revenue remaining after accounting for your cost of goods sold or cost of sales (COGS/COS).

6. Gross profit margin:

🎯 The percentage of your revenue remaining after accounting for the cost of goods sold or cost of sales.

7. Net profit:

🎯 The amount of revenue remaining after accounting for your cost of goods sold or cost of sales (COGS/COS) as well as your operating expenses (OPEX).

8. Net profit margin:

🎯 The percentage of your revenue remaining after accounting for the cost of goods sold or cost of sales as well as your operating expense.

9. Operating Cash Flow (OCF):

🎯 The amount of cash generated by your ongoing business operations.

10. Financing Cash Flow:

🎯 The amount of cash generated by your financing activities (i.e. borrowing and repaying debt, issuing and repurchasing equity, paying dividends)

11. Investing Cash Flow:

🎯 The amount of cash generated by your investing activities (i.e. PPE, investments in other companies, investments in marketable securities)

12. Days Sales Outstanding (DSO):

🎯 The average number of days you take to collect on outstanding customer (AR) balances

AR/Revenue x 365

13. Days Inventory Outstanding (DIO):

🎯 Average number of days you take to sell your inventory

Inventory/COGS x 365

14. Days Payable Outstanding (DPO):

🎯 Average number of days you take to settle outstanding supplier (AP) invoices

AP/Purchases x 365

15. Cash Conversion Cycle (CCC):

🎯 The average number of days it takes you to convert your inventory investment into sales, your sales into receivables and your receivables into cash.

DIO + DSO - DPO

16. Free Cash Flow (FCF):

Cash Flow available after operating costs

🎯 Net Income + Interest + Taxes + Depreciation/Amortization +/- Non-Cash Items +/- Changes in Working Capital +/- Changes in Fixed Assets

17. Cash Burn Rate:

🎯 Showcases how long current cash reserves will last.

Cash on hand / Monthly cash outflow.

18. Cash Debt Service Coverage Ratio;

🎯 Measures a company's ability to repay its debts from its operating cash flow.

Operating Cash Flow / Total Debt Service

19. Operating Cash Flow Margin:

🎯 Evaluates the efficiency of a company's operations by comparing operating cash flow to sales.

Operating Cash Flow Margin = (Operating Cash Flow / Sales) x 100

20. Free Cash Flow to Equity (FCFE):

🎯 Represents the cash flow available to equity shareholders after all expenses, reinvestments, and debt repayments.

FCFE = Net Income + Depreciation/Amortization - Changes in Working Capital - Capital Expenditures + Net Borrowing

These critical C-Suite roles have essential responsibilities in steering a company's strategic direction and operational success.

However, many companies have these roles comingled into one role: CFO/COO, which can be confusing.

Countless other companies struggle to delineate responsibilities between the COO and CFO roles.

Here’s how to think about them:

🎯 The CFO focuses on managing and strategizing the company's financial health and growth.

🎯 The COO focuses on managing and strategizing the company's operational efficiency and effectiveness.

🎯 Together they focus on balancing financial planning and operational execution to help the organization achieve its strategic objectives

➡️➡️ The COO

- Primarily oversees the organization's day-to-day operations

- Although involved in financial strategies and decisions, focuses mostly on managing only those financial aspects strictly related to operations

- Focuses on how money is spent in the execution of day-to-day operations and works to optimize those expenditures for efficiency and effectiveness

- Typically the second/third-in-command after the CEO and/or CFO depending on organization

- Plays a critical role in ensuring the efficient and effective allocation of resources to enable the organizational strategic objectives

- Mostly internal-facing role focused on operations, production, and departmental performance

➡️➡️ The CFO

- Responsible for managing the company's financial strategy

- Broader financial scope than COO, oversees overall financial planning, risk management, record-keeping, financial reporting, and financial data analysis

- Despite operations involvement, main focus is the financial health and fiscal strategy of the company

- Responsible for analyzing the company's financial strengths and weaknesses and implementing effective corrective actions

- Plays a critical role in aligning strategic organizational objectives with financial strategy

- Often external-facing, interfacing with investors, lenders, and other third party stakeholders

If you’re enjoying this newsletter, please forward it to a friend. It only takes 3 seconds. Writing this took 4 hours.

🎯Refer 5 people and get my exclusive eBook 10 Essential Strategic Finance Concepts that link Accounting, Finance and Strategy

🎯Refer 10 people and get an exclusive $10 Off coupon for your favorite infographic in my digital store.

As always, if you have suggestions or feedback, simply reply to this email.

1. Upgrade your strategic finance skills with The Cash Flow Masterclass, my highly reviewed, on-demand video course.

2. Work with me. Tap into my 20+ years of strategic finance & business intelligence, and get coaching for your own career. Availability is very limited. Book here.

3. Get growth business advisory for your organization with short, medium and long term financial planning, and big-picture financial models so you’re always finance-ready. Reach out here.

4. Sponsor a future issue of The Finance Gem 💎 or hire me to guest speak in your events and webinars

5. Train your team on strategic finance concepts and elevate their knowledge, decision-making and productivity. Reach out here.

Thanks so much for reading. See you next week.

Oana

: