5 Ways to Measure the Financial Health of Your Company

Have you ever stopped to think about what makes money so important? You can use money to create joy and fulfillment in your life and business. If you aren’t careful, however, money may lead you to short-term gratification, but long-term misery.

Regardless of how you spend it, money is a resource that you must measure. People make entire careers and businesses out of measuring money properly, or teaching others to measure it. Keeping track of money at your organization is essential to the overall well-being of the firm.

The most popular forms of measurement are found in the financial statements of a firm or individual. We discuss financial statements, as well as many other ways of properly managing money, in our Success Formula ebook.

Protecting the financial health of your organization starts with being able to accurately measure all aspects of money surrounding your company. Below, we discuss five ways that you can measure money to protect the health of your organization.

Financial Statements:

Financial statements are basically a picture of the monetary health of a company or an individual. These statements provide information on a company’s financial condition and their performance over a period of time.

Organizations use three main financial statements—from which they derive an endless number of KPIs—to measure their monetary health. These are the most important statements to understand though:

1. Balance Sheet

The balance sheet is a tabular listing at a given point in time of the balances of assets (cash and things that can be turned into cash), liabilities (money that you owe), and equity (the difference between the two). A balance sheet is often described as a “snapshot of a company’s financial condition. Thus, it tells you what you are left with if you turn all of the assets into dollars and pay off all of your debts. This is a very important number to know, and the ultimate goal is to keep this a positive number to ensure the ongoing viability of the entity.

You, or the person responsible for monitoring the financial status of your organization, should be using the balance sheet as an overall metric of health for the company.

Use the balance sheet to help you analyze the following factors:

• Short term liquidity of the business
• Company debt against company equity
• Tangible assets vs. financial transaction assets
• The time it takes to sell outstanding inventory
• The time it takes to receive outstanding payments

2. Income Statement

The income statement is a calculation of the income you have made over a particular period, either through sales or investments. You can also use this statement to calculate the expenses over the same period of time. The difference between the two is the net income or loss you had over the period. If it is income, then your equity increases, and if it is a loss, then your equity decreases for the year.

The income statement provides further information on the financial health of the organization. Some of this information may include:

• Gross profit margin
• Revenue growth over time
• The percentage of revenue that results in net profits (after expenses)
• If interest payments on debt can be covered
• What is repaid to shareholders vs. what is reinvested

3. Statement of Cash Flows

The statement of cash flows shows the sources and uses of cash over a period of time to depict how much actual cash an organization generated and how much they used. Ultimately, this information helps a business determine how much cash they have at the end of the period. The real source of value creation at the end of the day is cash and not income.

Although the balance sheet and income statement provide valuable information on the financial state of the organization, they don’t necessarily reflect the actual movement of cash. The statement of cash flows provides a clear statement to owners, managers, and investors of the organization and helps them understand:

• The business activity that generated sources of cash
• The expenses of the business where cash was used
• The liquidity status of the organization
• The overall increase or decrease of cash flow
• The cash flow generated to invest either in operations or assets

Other Measures

Although other measures of financial health may seem obvious, they can also have a major impact on the overall organization. It’s worth taking note of the other methods of financial measurement in your company.

1. Budget vs. Actual

A budget is an outline of where you or your business intend to spend your money. It is a key planning tool to ensure that you have the necessary finances to keep your business running. Calculating the difference between where you planned to spend your money and where you actually spent it can lead you to some very important and valuable insights.

For instance, in examining where you spent your money, you may determine that you had some unintended expenditures. This information will prove useful for the following year, especially if you are working with a fixed income level.

Analyzing the budget against the actual record of spending can help you identify any errors in accounting, changes in operational costs, or expectations that you need to adjust. These variances help you stay up to date in adjusting your budget to your company’s reality.

2. Cost Accounting

Cost accounting plays a key role in a company’s decision-making process. This measure of financial health can give you a better understanding of your organization’s fixed and variable costs so that you can optimize your budget and allocate resources where they are needed the most.

Some of the elements you’ll be analyzing in cost accounting are:

• Operational costs: For the day-to-day running of the business
• Variable costs: Usually tied to the level of production
• Fixed costs: Predictable and repeated costs, such as a mortgage
• Direct costs: Expenses directly tied to production
• Indirect costs: Expenses that aren’t directly tied to production

The Bottom Line

Protecting the financial health of your organization starts with accurately measuring all aspects of the assets and liabilities surrounding your company.

To analyze and manage these numbers, it’s important to seek outside expertise. After all, managing these numbers is key to the success of your organization. Just like you properly manage and take care of your health, you need to manage and care of the financial state of your company.

Learn more in The 10 Step Arootah Success Formula here. This eBook teaches you everything you need to know to achieve success in your business, personal life, and career.

How do you measure the money in your organization? What are you going to change going forward? Let us know in the comments!

Sources:

https://online.hbs.edu/blog/post/how-to-determine-the-financial-health-of-a-company

https://revvana.com/blog/budget-vs-actual/