The FreeAgent Blog
Customer feedback is the lifeblood of any business; if you don’t know what your customers think about you, it’s incredibly difficult to know what’s working and what isn’t. But what are the best ways to gather insights from your customers? Here are four strategies that successful companies followed to get great customer feedback and adapt their businesses.
Do you know a great way to get useful feedback from your customers? Hit us up on twitterand let us know!
In the final part of our series on some of the tools that can help you review the health of your business, our Chief Accountant Emily explains “debtor days”. This is a ratio that indicates how quickly your customers pay you.
The smaller this figure is, the better, as it means that your customers usually pay you quickly. If your debtor days figure is higher than the number of days’ credit you give your customers, then you certainly need to improve your credit control, possibly by using a tool like FreeAgent’s automatic invoice reminders.
To work out your debtor days, take your business’s trade debtors figure from the end of a 12-month period. You’ll find this on your balance sheet.
Then divide that by the business’s sales for the previous 12 months, which you’ll find on your profit and loss account.
Multiply the result by 365 to give your debtor days.
This business’s debtor days figure is £23,362 / £61,558 x 365 = 139.
This means that, on average*, the business’s customers take 139 days to pay outstanding invoices, which is a long time! This business needs to get busy collecting its dues from its customers.
*Remember that as this is an average figure, it may be distorted if, for example, you received a big order from a customer just before the end of the year
In the second part of our series on some of the tools that can help you review the health of your business, our Chief Accountant Emily explains the break-even point.
So what is the break-even point?
In a nutshell, the break-even point is the point where a business’s costs are equal to its sales. When an accountant checks through your financial information it’s likely they’ll use this to see if your business is healthy.
The break-even point is also often used in planning. If you have a profit and loss account from a previous period, and you know that your costs are about to increase, perhaps because you’re taking on a new member of staff or renting a larger workshop, you can use the break-even point to make sure your income from sales will still cover your increased costs.
You might also want to allow for reduced sales. For example, time spent training a new staff member is time you can’t charge your clients for.
Calculating your break-even point
So how do you work out your business’s break-even point?
Here’s a profit and loss account generated in FreeAgent.
The gross profit margin in this example is 88%, which is worked out as (sales less cost of sales) / sales = (£61,558 - £7,608) / £61,558.
To work out your business’s break-even point, add up all its overheads, and divide that figure by the gross profit margin. Remember not to include cost of sales, because you included those in the gross profit calculation.
For this business, (£19,358 + £11,454 + £2,299 + £59 + £2,013) / 88% = £39,981. This is how much the business needs to earn in sales to break-even. The business has earned almost half as much again and therefore has nothing to worry about in the short-term, and could potentially plan growth, for example an office move or recruitment.
In the third and final part of this series, Emily looks at “debtor days”, a ratio that indicates how quickly your customers pay you.
This month at FreeAgent we’re looking at some useful tools that can help you review the health of your business. We’ve asked our Chief Accountant, Emily, to begin by explaining one of the main tools that accountants often use to check the financial position of a business: liquidity ratios.
What are liquidity ratios?
A business is “liquid” if it has plenty of cash available to pay its debts at the point that they arise.
There are two liquidity ratios that you can use to check your business; the current ratio and the quick ratio. These are used to check the figures on your balance sheet (which FreeAgent generates for you) to show you how your business is performing. Here’s how each ratio works:
Essentially the current ratio is a way of measuring whether the business has enough cash on hand, or due in shortly, to pay the debts which you either have to pay straight away or in the near future. The ratio itself is a business’s current assets divided by its current liabilities.
Current assets are what your business owns that can be easily converted into cash, for example, money you are owed by your customers (“trade debtors” or “accounts receivable” in accounting-speak), any stock that the business holds for sale, or actual money in the bank account. Current liabilities are sums owed by the business which have to be paid out in less than a year, such as money you owe to your suppliers (“trade creditors” or “accounts payable”), and any money you owe to the taxman or to your staff.
A good ratio for a business to have would be 1 or higher, as it means that the business’s current assets are equal to or more than its current liabilities, and therefore it has at least enough cash to cover its immediate debts.
However, a current ratio of lower than 1 may be bad news - and if your business’s current ratio is less than 1, it’s worth looking at what its debts are. For example, if the business owes you a lot of out-of-pocket expenses but the other debts are minimal, that’s not so bad because you’re hardly going to sue your own business. But if you owe a lot of money to suppliers and to HMRC, and your current ratio is less than 1, it may be time to contact your creditors (that’s people you owe money to), and arrange payment plans.
The quick ratio is the same calculation, but any stock the business holds for sale is omitted from the calculation. That’s to make it easier to tell whether there’s enough cash already in the business, and due in from customers, to pay the business’s debts if, for whatever reason, the stock can’t be sold - perhaps because it’s been damaged, has perished or become obsolete.
A quick ratio of 1 or higher is healthy, because the business would still be able to pay its debts even if none of its stock could be sold. A quick ratio of under 1 may be cause for concern because if your business’s stock was destroyed in an accident like a flood, for example, you might not have enough cash to pay creditors, and it might be time to make sure your stock is adequately insured.
Let’s look at some numbers to help explain this.
Here is an extract from a sample balance sheet, generated by FreeAgent.
The current ratio = current assets / current liabilities = £118,915 / £84,562 = 1.41.
That’s greater than 1 which is good news. The business has enough cash to cover its immediate debts.
The quick ratio = (current assets less stock) / current liabilities = (£118,915 - 84) / £84,562 = 1.41.
Again this is very good news because even if none of the stock could be sold, the business would still have plenty of money to pay its debts.
Remember when you’re running a business you should always try to ensure it has good liquidity so you don’t face any unwelcome problems in the future. Knowing your liquidity ratios now - and checking them regularly - could save you a great deal of hassle down the line.
In the second part of this series on some of the tools that can help you review the health of your business, Emily explains the break-even point.
Showing 1 - 4 of 541 Articles · Page 1 of 136
- 4 ways to check in with your customers
- Reviewing the health of your business: debtor days
- Reviewing the health of your business: the break-even point
- Reviewing the health of your business: liquidity ratios
- How to organise your financial paperwork
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