Business Tips: How to Identify Your Business Trends
© 2002 Door & Access Systems
Publish Date: Winter 2002
Author: Bruce McConnell
Page 44
Business Tips
How to Identify Your Business Trends
By Bruce McConnell
Analyzing a door dealer's financial statements can be fun. Somewhere in the middle of all those numbers is an adventure in finding key trends that reveal what is really happening to your door company.
These trends tell you which direction the business is heading, not just overall, but in several specific areas. Understanding these trends is an important step to seeing how well your business is really doing.
The Problem
Information in typical financial statements is difficult to interpret. Right? The numbers and the relationships between them always seem to be changing, and it's hard to see what's really important.
The Solution
To solve this dilemma, I calculate some key financial ratios from the numbers found in the Balance Sheet and Income Statement. Then I compare the ratios, rather than the numbers themselves, to help me identify the trends of the business.
The raw numbers are still important; they help us measure the level of investment in a particular asset or activity. But it's difficult to see meaningful comparisons between the numbers from different months or years.
Each financial ratio helps you evaluate the performance of a specific segment of your business for a given period. Comparing ratios from different periods will allow you to see key performance trends.
Once you learn where to find the information in your financial statements, calculating the ratios is pretty easy. Using them to identify the trends is the tricky part. You need to understand the factors in each ratio that cause it to get better or worse.
My Favorite Ratio
Let's take a look at one of my favorites. This trend reveals if you're doing a good job in collecting bills.
First, let's get the key numbers. From your Balance Sheet, pull out your Accounts Receivable number. Then go to your Income Statement, and locate the number for your Total Sales. (This example is simplified and assumes all sales are Credit Sales.)
Ratio #1: A/R Turnover
We're going to create two important ratios. The first ratio comes directly from these two key numbers. The second ratio converts this information into the more useful measurement of days. We'll compare the ratios for three years.
First, we calculate the number of times that A/R Turns in a year:
| Year 1 | Year 2 | Year 3 | |
| Total Sales | $816,000 | $930,000 | $1,010,000 |
| Accounts Receivable | $109,000 | $168,000 | $220,000 |
| A/R Turns | 7.5 Turns | 5.5 Turns | 4.6 Turns |
Ratio #2: Days Receivable
Next, we translate the A/R Turns into Days Receivable:
| 365 Days (Days in Year) | 365 Days | 365 Days | 365 Days |
| A/R Turns | 7.5 Turns | 5.5 Turns | 4.6 Turns |
| Days Receivable | 49 Days | 66 Days | 79 Days |
In this example, even though sales were higher in Years 2 and 3, the number of days invested in A/R that was required to support these sales increased from 49 to 79 days. This additional 30 days is tying up more working capital dollars in the form of A/R.
This negative trend indicates that you need to improve your management of A/R, an important asset in any door dealer's business.
Once you get a handle on your trends, you can start to dig into the many factors causing them. More importantly, you can start developing critical strategies that improve your business.
Bruce McConnell is president of McConnell & Associates of Dixon, Ill. For more than 10 years, he has counseled hundreds of door dealers on issues related to financial statements and financial management. He is available at 815-288-3556 or at bhmc@grics.net.