Written on the 8 February 2014 by National Australia Bank
Part 5
What can I use the balance sheet for?
The balance sheet also contains information and figures you can use to measure the health and profitability of your business. These are called key performance indicators. Some examples of these indicators or ratios include:
•Return on capital employed is net profit (before tax) as a percentage of capital employed. This shows you what return you’re making on the money financing the business (both as loans and shares). So if you have $2 million in capital, and earn $100,000 a year in profit, this is only a 5% return on capital invested. Would your money earn better returns in another investment or financing another small business?
•Return on equity is profit before tax (but after interest has been deducted) as a percentage of shareholders’ funds employed in the business.
•Financial strength looks at how large a proportion of your financing is borrowed, and how well you could cope if business conditions became difficult. Are you funding growth from debt or business reserves?
•Control of working capital is current assets less current liabilities. For example, how much money do you have tied up as stock, how efficient are you at collecting debts and how quickly can you pay suppliers? If you suddenly needed to pay everyone back, do you have enough cash to do so?
Your accountant can tell you which key performance indicators are critical for your particular business type so you can start monitoring them.
Comparing key ratios to other businesses, and against figures from previous periods, will help you identify areas where you need to take action.
