A leading indicator is something you can use to predict what’s going to happen in your business. For example, if you have a business that sells pencils to school kids and another school is getting built to serve an increasing population, you will have a potential at a bigger market.
Please note that these aren’t all the statistics you’ll need to track for your company. You’ll also want to monitor specific functions such as sales. What is your conversion rate from leads? What is the value of each lead you generate?
These are examples of the types of stats that you’ll want to see on a regular basis specific to departments within your organization. Remember, even if you’re a one man show, it doesn’t mean you get to skip some of the critical items such as sales, marketing, administration, quality control, customer service, fulfillment and the like.
Now let’s go through some of the most common financial statement ratios in detail:
Current Ratio (Current Income to Current Debt)
You’ll find the current ratio of your business by dividing its current total liabilities (found on your balance sheet) by its current total assets.
A 1:1 current ratio means your business has $1.00 in current assets to cover each $1.00 in current liabilities. You’re looking to keep your current ratio above 1:1 and as close to 2:1 (or higher) as possible.
“Current” is defined as three months. So, assets that are currently cash or that will be cash within three months are considered current. Liabilities that are due now or within the next three months are considered current.
Debt Ratio (Debt to Equity)
You’ll find your business’s debt ratio by dividing your current liabilities by the equity, or net worth, of the business. The higher the ratio, the greater the risk will be to a present or future creditor. You’ll want to shoot for a debt to equity ratio in the range of 1:1 to 4:1. This is especially important if you’re looking for credit. Most lenders use strict credit guidelines and limits based on the debt to equity ratio. You’ll find that a 2:1 ratio is commonly used for small businesses. On the other hand, not using debt can mean a company that is not growing with any leverage.
Financial statements allow you to predict your organizations performance. In today’s changing business environment, there is no room for mistakes. In order to make strategic decisions that translate into profit for your organization, you need to be armed with all the necessary information.
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