KPIs: What Are They, and Which Ones Count?
December 30th, 2021/Advisory
Management needs timely, accurate feedback to guide operating decisions, anticipate problems and take advantage of emerging opportunities. Unfortunately, comprehensive financial statements take a long time to generate. Reporting key performance indicators (KPIs) on a monthly or weekly basis is a simplified alternative to gauge performance in real time.
Popular financial metrics KPIs measure an organization’s progress toward its objectives. However, with so many metrics to choose from, data overload can easily happen. That’s why your KPI report should be customized and streamlined to cover the metrics that are the most critical to your success. KPIs differ from one company to the next based on the industry and the company’s objectives. Common examples include:
Operating Cash Flow
This helps management evaluate how much cash is available for immediate spending needs. Poor cash flow, not slow sales or lagging profits, is one of the leading causes of business bankruptcy.
Return on Assets
This metric equals net income divided by total assets. It measures how effectively your company is managing its assets to generate earnings.
The number of times inventory is converted into sales is usually computed by dividing cost of goods sold by the average inventory balance. This tells you how efficiently you’re “selling through” inventory. Many companies waste valuable cash by allowing slow-moving inventory to sit idle on their shelves for too long.
KPIs can also be industry specific. To illustrate, auto dealers might compare new vehicle sales to used vehicle sales; contractors might focus on the bid-hit ratio; and hospitals might want to know the average wait time in the emergency room or the bed occupancy rate in the intensive care unit. Beyond the numbers many companies also include nonfinancial metrics in the areas of customer service, sales, marketing and manufacturing. However, nonfinancial KPIs must be both specific and measurable. For instance, just saying that your company wants to “provide better customer service” doesn’t produce a sound KPI. Instead, if your goal is to improve response time to customer complaints, a relevant KPI might be to provide an initial response to complaints within 24 hours, and to eventually resolve at least 80% of complaints to the customer’s satisfaction. Benchmarking results A basis of comparison is important when reviewing KPIs. Benchmarks will provide a standard against which you can compare to see how your KPIs stack up. You can benchmark your current KPIs against historical results or averages published in trade publications. This will help you spot trends and identify potential problems, allowing you to deal with them before they worsen. For example, if your accounts receivable days are lengthening, it might indicate that your collections are lagging, and a cash flow crunch is looming. Unlocking the keys to success during the pandemic and the ensuing economic turmoil, tracking relevant performance metrics is more important than ever. Threats and opportunities abound — and new ones seem to arise quickly.
Threats and opportunities abound — and new ones seem to arise quickly. We can help you tailor your KPI report to meet your business needs, as well as find meaningful benchmarks based on current market conditions. Contact us to discuss any concerns as you prepare your preliminary year-end statements.
Are you ready for the upcoming audit season?
December 30th, 2021/Advisory
An external audit is less stressful and less intrusive if you anticipate your auditor’s document requests. Auditors typically ask clients to provide similar documents year after year. They’ll accept copies or client-prepared schedules for certain items, such as bank reconciliations and fixed asset ledgers. To verify other items, such as leases, invoices and bank statements, they’ll want to see original source documents.
What does change annually is the sample of transactions that auditors randomly select to test your account balances. The element of surprise is important because it keeps bookkeepers honest.
Accounting personnel can also prepare for audit inquiries by comparing last year’s financial statements to the current ones. Auditors generally ask about any line items that have changed materially. A “materiality” rule of thumb for small businesses might be an inquiry about items that change by more than, say, 10% or $10,000.
For example, if advertising fees (or sales commissions) increased by 20% in 2021, it may raise a red flag, especially if it didn’t correlate with an increase in revenue. Be ready to explain why the cost went up and provide invoices (or payroll records) for auditors to review.
In addition, auditors may start asking unexpected questions when a new accounting rule is scheduled to go into effect. For example, private companies and nonprofits must implement new rules for reporting long-term lease contracts starting in 2022. So companies that provide comparative financial statements should start gathering additional information about their leases in 2021 to meet the disclosure requirements for next year.
Minimize audit adjustments
Ideally, management should learn from the adjusting journal entries auditors make at the end of audit fieldwork each year. These adjustments correct for accounting errors, unrealistic estimates and omissions. Often internally prepared financial statements need similar adjustments, year after year, to comply with U.S. Generally Accepted Accounting Principles (GAAP).
For example, auditors may need to prompt clients to write off bad debts, evaluate repair and supply accounts for capitalizable items, and record depreciation expense and accruals. Making routine adjustments before the auditor arrives may save time and reduce discrepancies between the preliminary and final financial statements.
You can also reduce audit adjustments by asking your auditor about any major transactions or complicated accounting rules before the start of fieldwork. For instance, you might be uncertain how to account for a recent acquisition or classify a shareholder advance.
An external audit doesn’t have to be time-consuming or disruptive. The key is to prepare, so that audit fieldwork will run smoothly. Contact us to discuss any concerns as you prepare your preliminary year-end statements.