Key performance indicators: Any company, no matter how small, can benefit from monitoring KPIs

Focus-AccountingAll too often, accounting becomes an afterthought — a nuisance that must be cranked out quarterly or at the end of the year. A different perspective, however, could change that attitude and boost business performance.

In reality, accounting — by way of key performance indicators (KPIs) — ought to be a daily part of business, akin to greeting customers, managing employees or taking cash to the bank at the end of the day.

Instead of being annoyed by accounting, use it to jump-start and monitor sales and increase business.

Often, small businesses lack current accounting information. Data might come from last quarter or last month, and owners may or may not maintain access to those numbers.

Ideally, though, accounting information would be kept up-to-the-minute — or daily, at least. Once the systems are established, this data flow becomes commonplace, even simple.

As such, key performance indicators need to be metrics that measure a company’s success. Dave Kast, CEO of Stockman Kast Ryan and Co., mentions Care and Share Food Bank of Southern Colorado for its easy-to-understand metric: The nonprofit measures success by the number of meals it serves. Simple, but it shows the bottom line.

For a firm employing consultants, architects, attorneys, certified public accountants, etc., success is measured by the number of billable hours. On the other hand, an industry such as construction is dependent on each job being profitable.

“From day one, you have to bid it correctly and monitor whether you’re maintaining profit margins on each individual job,” Kast said. Costs of materials and labor are the main metrics in that industry.

In addition, each industry or business owner has a different objective — being profitable, providing jobs or preparing for sale — that should drive KPIs. While trying to achieve objectives, though, there needs to be balance.

“You could focus too much on EBITDA [earnings before interest, taxes, depreciation and amortization], increasing net income, but then you might not invest money in training or future employees,” Kast said, which in turn would destabilize the company.

“So the focus of the business is important,” he said. “We try to get to know people and their businesses before we advise them. What are their goals? Do they want the company to be more efficient, or is their sole goal to pay fewer taxes?”

Measuring the details

Large companies already track exactly what’s sold when, for how much, to whom or what part of the country, etc. Yet with small to midsize companies, there’s a “huge disconnect between real-time data — how many oranges they sold this hour — and quarterly financials,” said Chris Blees, CEO of BiggsKofford.

“Most small business owners don’t know what they could or should analyze and measure,” Blees said. Although at any given time a business owner usually knows how much he or she pays for rent or utilities, such expenses aren’t key performance indicators.

For a retail business, basic KPIs might include how many people visited the store that day, the average price per sale and the number of items each customer purchased.

A service business, on the other hand, could track average service time and billed service time. If a technician works 40 hours per week, but only has 22 hours of billable time, that might need to be addressed.

“If you’re identifying and tracking your KPIs well, then when your CPA or internal accountant hands you your financials, your reaction ought to be, ‘No kidding,’” Blees said.

If not, it would be “like a driver looking in a rear-view mirror to see a pothole, when he already saw it coming and ran over it,” he added.

Whereas key performance indicators are the dashboard or windshield, financial statements are the rear-view mirror — one already knows where the business has been and how it’s doing.

Tracking and measuring — that’s real accounting with measurable value that drives business.

If annual revenue is $5 million, for instance, and a business owner misses an opportunity that amounts to 5 percent of revenue by only looking at quarterly or annual data, well, that adds up, needless to say.

When using such metrics as measurement and monitoring, accounting becomes much less about a balance sheet.

“It’s really about maximizing your profit — so that accounting helps you make good business decisions,” Blees said.

On a daily level, KPIs change methods of inventory and ordering.

Once a business owner knows precisely which items move slowly and which sell quickly, he or she can raise the price of the faster-selling items and fine-tune that price increase so that sales of those items don’t decrease. But if they decrease, the owner/manager would know immediately and adjust the price accordingly.

“A small ma-and-pa shop, they can do all this on the back of an envelope,” Kast said. If they have money to pay the bills, that’s usually all they need; their metric is cash flow.

“But by the time you add employees, you need to have a process in place,” Kast said. “Otherwise, this keeps some businesses from growing. You need to develop a system that works for you.”

Tracking retention for valuation

Often owners of small to midsize businesses focus almost exclusively on increasing revenue and sales, but that approach misses an important indicator of business longevity: customer retention.

After 25 years spent advising clients on business valuation, Carol A. Lewis, partner and head of BKD’s national forensics and valuation services division, knows that most business owners don’t track customer retention and customer attrition, though the two go “hand in glove,” she said.

While preparing for valuation of one’s business for sale, such data would be a “compelling and powerful statement to have a strong percentage of customers who are happy to stay with you,” Lewis added.

Executives ought to track this quarter-to-quarter, regardless of their type of business. But in certain industries, such as manufacturing and distributing, obtaining new customers typically can be especially expensive.

For small business owners focused on growth, the actual cost of gaining a client may be rather surprising.

“Clients can be ready to strike a deal or sell their business, but sometimes they don’t know their customer retention — they assume it’s been successful,” Lewis said. “And it’s a revelation to them how expensive it is to get a single new customer.”

Ideally, having been tracked, strong customer retention would be one of the “softer items that could help them slightly nudge up the price they’re looking for,” she said.

Exit strategy

With business valuation in mind, identifying performance indicators that increase EBITDA would be wise preparation for selling a company.

Another key metric for valuation would be to compare one’s business to others in the market. Is business keeping up with industry revenue trends? If not, that equates to losing market share.

Whether a business is health care, agriculture, retail, hospitality or manufacturing of medical devices, research the industry’s anticipated revenue growth.

“Are you capturing that in your own company’s growth experience? If not, you need to come back and analyze your product mix and what competitors are doing,” Lewis said.

If the overall industry shows 3 percent growth and a particular business hits 5 percent, then for an exit strategy, “you can show you have stronger growth than the industry.

“I look at that stronger than the net income they’re generating,” Lewis said, adding, there are “lots of variables in expenses that can be modified within a company — but to surpass the industry is powerful.”

To that end, most successful business owners and CEOs join trade groups. Car dealers, for instance, have a long-standing tradition of comparing themselves to competitors, said Kast. “They are the best example of measuring themselves against their peers.”

At the end of the day, accounting may seem downright tantalizing, once the uses and benefits are understood. Crunching numbers only for tax time has long since become passé.

“It’s the rare guy who can run a business by the seat of his pants,” Kast said. “Usually, the successful ones are tracking their key indicators.”