441AD 91E4 ECKONEIR When it comes to running a successful
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haulage operation, financial ratios are a lot more important than gear ratios...
Successful transport businesses are made by good managers who have learned the skills of marketing, purchasing, customer relations and financial control. Many of these skills are acquired from experience, but every manager depends on accurate information. This is where ratios can be of great assistance. But be warned— financial ratios are no substitute for sound business management.
Remember the adage, "figures can be used to prove anything" and exercise caution while appreciating that ratios can identify financial trends; possibly the most important aspect of management information. With these notes of caution in mind, use these 10 specific ratios to help provide a key for the pursuit of profitable business.
Gross profit margin Gross profit x 100 = % Sales For most businesses this is the key ratio, measuring performance and efficiency at the prime level of operations. It is arrived at by deducting the cost of sales (stock and labour) from the sales, and expressing the result as a percentage of sales. Improvement can be achieved by increasing sales or by reducing costs or, of course, by doing both. Comparing your gross profit margins over a number of years can be extremely revealing.
Operating profit margin Operating profit x 100 = % Sales This is another significant ratio which must also be carefully monitored. It reflects the expenses incurred in running a business, but before interest charges, drawings and exceptional items are taken into account.
Many businesses survived the recession because they pruned expenses to the core. Some costs, such as rent and rates, are fixed, but wasteful use of power, phones and promotional material should be eliminated to improve your operating profit.
Pre-tax profit margin Profit before tax x 100 = % Sales This represents bottom-line profits before tax. It is the measure of profit earned on sales, after deducting such things as finance charges and bonuses.
Finance charges can be critical. If a business is under-capitalised significant loans might be needed, and interest charges can hammer your profits. Many viable enterprises which were set up 10 or 11 years ago ran into deep problems following swingeing increases in bank base rates.
The current ratio Current assets = :1 Current liabilities This ratio provides an indication of a business's ability to pay its way, using current assets to meet day-to-day expenditure without having to sell fixed assets or raise long-term finance.
Although current liabilities should almost invariably be treated as short-term commitments, such "short-termism" may not always apply to current assets. For example, creditors expect to be paid on time, while bank overdrafts are technically repayable on demand. Current assets may include items which could have little actual value, and it may not be easy to convert stock into cash. This is why the current ratio should be viewed alongside that of the following acid test...
The acid test ratio Cash + debtors + readily realisable investments = :1 Current liabilities This ratio is all about a business's liquidity Most liabilities are settled by cash in hand from debtors, so a business which has a high proportion of its current assets tied up in stock could be vulnerable to pressing creditors. In assessing this ratio, the quality of debtors will certainly be significant—as will be their ability to pay on time.
Stock turn Stock x 365 = days stockholding Sales This ratio indicates the speed with which a business turns over its stock. The faster the better is the general rule, provided that stock levels are not kept too low, to the detriment of customers.
Accuracy in assessing the end-of-year stock level is important: it should represent the average position for the year as a whole.
Credit given Debtors x 365 = days given Sales This reflects debtor control; something which must be given priority Until debts are turned into cash, creditors may have to go wanting. Again, the trend of this ratio may prove quite revealing.
Credit taken Creditors x 365 = days taken Purchases Generally speaking, the more credit that can be taken, the better—provided it is within the terms of trade. Deliberately withholding payments to suppliers may well rebound if supplies become scarce. A good reputation for prompt payment would certainly help at such times, and this should be a prime objective of any businessman.
Debt: equity ratio Total borrowings = :1 Net worth This ratio reveals a business's "gearing". That is, the amount which has been borrowed in relation to the proprietor's funds. A highly geared business is one where the proportion of borrowed money is high: normally it is preferable to be as low geared as possible. Bankers would not wish to see this ratio at any more than 1:1.
Return on capital employed Profit before tax x 100 = `)/0 Net assets This ratio measures a business's profit against the resources under its control. If the outcome is to be meaningful, accuracy is essential on factors such as the valuations of fixed assets and stock.
Any owner, or investor, wants to know what return has been achieved on his investment. This ratio provides an overall view of the strength of a business.
17 by Adam Bernstein