We don’t make strategic business decisions or allocate resources based on a best guess or a hunch. Running a business involves understanding the key elements of your industry and marketplace. The nuances of macro and granular external factors that influence the buying habits of consumers and competitors all affect company performance.
Being able to react quickly to new business conditions and opportunities is an important part of running a successful company and achieving growth. Measuring the performance of a business is usually based on achieving predetermined goals or targets but also provides an element of monitoring so that at any time, your company can be understood in terms of its strengths and weaknesses.
In practice, what does this actually mean?
Let’s take an example.
You set yourself a goal for your online retail business of improving net profit by 10% by the end of Q4.
It’s now the end of Q2 and you want to know how your business is progressing towards your target. So, you take a look at your net profit figure. But net profit has actually fallen 3%, so you need to investigate further. You need to analyse your company in detail and figure out what has changed. Was it the cost of goods sold or total expenses? There’s a way to find out.
You use metrics.
What Are Business Metrics?
A metric is a standardised way of measuring something. Business metrics are essentially arbitrary measurements of business performance that can be applied across time (and different companies) to allow for comparison and analysis.
Another name for a business metric is a key performance indicator (KPI). A KPI/metric is presented as outputs in the form of a numeric value, for example:
Metric used: Gross Profit Margin = 25%
Business metrics are flexible and dynamic, they can be applied by everyone within a business, from teams working on small projects all the way up to the boardroom looking to make high-level decisions based on quantifiable measurements of company performance. The metrics can be used to monitor individual performance or the company as a whole. Business metrics help to keep your business moving in the right direction and allow leaders to make data-driven decisions.
Spending company time and resources on KPIs that are irrelevant to your company (think monitoring website traffic to a company providing wholesale fabrics) causes confusion and can lead to mismanagement and inefficiencies.
Selecting and tracking the correct business metrics can help you to successfully manage your business growth. Keep reading below for nine tips on using some of the most meaningful metrics out there.
1. Gross Profit Margin
In simple terms, a company’s gross profit margin is the amount of revenue that is profit once the production expenses are accounted for.
(Revenue – Cost of Goods Sold) / Revenue = Gross Profit Margin
Gross profit margin considers the cost of goods sold, in other words, the direct expenses associated with selling the product or service. This metric does not include expenses such as taxes or capital repayments.
Gross profit margin is a useful metric for most businesses as it represents the portion of each pound of revenue that the business can retain. This retained amount is then available to the business to pay other fees or distribute to its shareholders.
Imaginary Corp. has £1bn in revenue, £300m in manufacturing expenses and £11m in salaries.
(£1bn - £311m) / £1bn = 68.9%
Or, for every £1 generated in revenue, Imaginary Corp. retains 68.9p.
Businesses use gross margin to measure costs associated with production relative to revenue. If the gross profit margin is seen to be falling over time, prices might be increased, cost-cutting might be needed in the manufacturing process or cheaper suppliers might be found.
By measuring the gross profit margin for your business, you can identify areas of your operation that could be more efficient and ensure that as much profit as possible is available to the business to drive future growth projects. Comparing your metric against competitors operating in the same markets can also ensure that you’re not falling behind your rivals and remain competitive.
2. Net Profit Margin
We just covered this right? Not quite…
Net profit margin is the percentage of the company revenue that is profit once all expenses are accounted for.
(Revenue – Total Expenses) / Revenue = Net Profit Margin
Unlike the gross profit margin, this metric does include expenses not directly associated with selling the goods or service. The total expenses will include everything from worker salaries and office rental to paying for the company car benefit scheme.
Net profit margin is a useful metric for businesses as it shows how much of each pound of revenue created the business is able to keep.
Imaginary Corp has £1bn in revenue. £300m in manufacturing expenses, £11m in salaries, £2m loan repayments, £188m in capital expenditure, £3m pension contributions and £100m in tax.
(£1bn - £604m) / £1bn = 39.6%
Or, for every £1 generated in revenue, Imaginary Corp. retains 39.6p after all expenses.
This metric allows companies to predict the impact of capital projects or new borrowing. When compared against gross profit, changes in this metric are due to non-essential costs. In order to arrive at a more desirable net profit, business leaders can make decisions to reduce these costs.
As with all metrics, comparisons should be done with care as both gross and net profit margins vary widely between industries. Some businesses operate on low margins but make up for this by selling huge volumes.
3. Current Ratio
The current ratio gives a measure of liquidity within a company. This business metric helps investors and creditors understand the liquidity of a company and allows the business to structure and plan expenditure and borrowing. It shows how easily that company will be able to pay off its current liabilities.
Current Assets / Current Liabilities = Current Ratio
A higher current ratio is more desirable than a lower current ratio because it shows the company can better afford its current liabilities and is better placed to react to unexpected market conditions.
A company has £100m in current assets and £70m in current liabilities.
£100m / £70m = 1.43%
If the company had a current ratio of less than 1%, this would be a very concerning situation as it means short term liabilities aren’t affordable. Businesses can use this metric to keep track of their financial health and ability to survive any unexpected expenditures. Keeping the current ratio over 1% (well over if possible) is a measure of good financial health and gives CEOs the freedom to make strategic decisions to progress, without being restrained by risking too much in the pursuit of growth.
4. Customer Acquisition Costs
The customer acquisition cost metric is the cost to the company introducing new customers to win their business. Understanding this metric is useful in that it can inform marketing strategies and budgets. Costs associated with customer acquisition are typically marketing, advertising, discounting, marketing agency/staff salaries and other customer incentives such as gift cards and money off deals.
Total Customer Acquisition Cost / Number of New Customers = Customer Acquisition Costs
Industries where products have a finite life span, such as mobile phone contract providers, continually have to market new products. To compete in a crowded marketplace, they have to aggressively advertise their products. By negotiating special rates with mobile phone manufacturers and marketing these to the public, they will try to win customers from other providers who might be near the end of their contract. To businesses like these, customer acquisition costs can be considerable. By measuring this metric, they can understand how their customers relate to their offers and advertising strategies and structure their budgets accordingly.
Conversely, if a company has to incur heavy costs to win new customers, then the current strategy might have to be re-evaluated.
Europa Phones Ltd spent £100k on marketing last month and in the same month, they won 9,000 new customers.
£100k / 9,000 = £11.11
The Customer Acquisition Cost can be produced to monitor specific customer segments or marketing strategies and calculate across any relevant time period.
5. Customer Churn Rate
This is the percentage of customers that have been lost during a given period. With this in mind, a low churn rate would indicate that customers are content with your product/service. The churn rate can be calculated differently by different businesses. A lost customer may be one that doesn’t renew a contract or cancels a subscription. Alternatively, it may be a customer that fails to make a repeat purchase within a certain amount of time. Churn rate should only include paying customers though, not those making use of free trials.
[Total Customers Lost During This Period / Total Customers at the Start of This Period] x100
Your churn rate can highlight issues within a business, such as incorrect pricing and product quality/functionality. Depending on the time frame you apply to the churn rate metric, you can get up to date information on customer engagement and retention, allowing budgeting and effective planning to take place.
ABC is an online clothing retailer. At the beginning of this period, they had 48,000 active customers. During this period, 12,000 customers failed to make follow-up purchases within 90 days.
(12,000/48,000) x 100 = 25%
6. Average Revenue Per Unit
In this business metric, the term unit can be taken to mean account, customer or user. The calculation is simple: the total revenue derived in a period, divided by the total number of users (or customers) in that same period. If the number of users is highly changeable intro period (due to product seasonality or other factors), the number of users can be averaged over the period.
Total Revenue / Number of Units = Average Revenue Per Unit
Social media companies and app developers amongst others use this metric to understand how much revenue is generated by each user. Used in conjunction with Customer Acquisition Costs it can be a powerful metric that helps you understand your customer network.
social book, a popular social network application had £10bn in revenue for 2020 and £700m users.
£10bn / £700m = £14.29
When compared to the Customer Acquisition Costs metric you can understand how much revenue is generated once the customer is active in your network. If your customer acquisition cost was more than the average revenue per unit, you would not be making any profit on your revenues and measures should be taken to address this.
Clearly, growth can be obtained by expanding the user base or having the existing user base spend more on your products/services. This metric is flexible in that it can be calculated to meet the individual business's needs, using time periods that are most meaningful to it.
7. Sales Growth
A sales business metric is the measurement of performance that is used by companies and sales teams to monitor the effectiveness of their sales activities. This metric helps businesses to optimise their sales performance.
By tracking sales growth you’re essentially tracking company growth and is calculated by comparing the change in revenue between two periods. The output demonstrates the rate of growth, positive or negative, for the business.
[(Sales Revenue (Current Period) – Sales Revenue (Previous Period)) / Sales Revenue (Previous Period)] x100
This business metric is one of the most powerful in a growing business, it is tied to the company’s revenue and profitability and gives a measure of the overall health of the organisation.
Pear Inc. had £50m in sales in Q1, in Q2 they had £63m.
[(£63m - £50m) / £50m] x100 = 26%
Tracking sales growth should be a priority for any business that earns revenue this way. Being able to understand the impact of marketing activities, deals and sales teams is vital to making the decisions needed to steer a business in the right direction. This metric is powerful in that it can be applied company-wide, or to individual employees. This allows management teams to understand the performance of different aspects of their sales teams and company, across different customer sectors and markets, ensuring that they have the best data available to them when it comes to decision making.
8. Website Traffic
This metric is very easy to understand but is also one of the best indicators out there of company reputation. Digital marketing is a very competitive space and this metric will help your business to understand the impact of your marketing strategies.
Website traffic is important for lots of different reasons. When more people are visiting your website, there are more opportunities to reach new customers. Each website visit is an opportunity to make an impression, generate interest, share your brand and make a sale.
Website traffic is useful to monitor as it indicates the health and relevance of your brand and reputation. If a trend in website traffic is falling, it could be a sign that your target audience is not relating to your brand as strongly as it once was.
Website traffic can be a useful metric as it allows you to calculate derivative metrics that show more granular information. Such as:
Unique website visitors: First-time visitors to your site during a defined period of time. Helps you to understand website traffic over time and plan marketing around periods of low engagement.
Pages viewed per session: The number of pages a user views in each visit to your website. This can help you understand how your visitors interact with your website and how engaging they find it.
Average time per session: This can help you to understand the quality and relevancy of your content.
There are many (many!) more digital KPIs that can be applied, see here for more information.
9. Market Share
Market share is a useful business metric as it gives you an overall sense of the size of the company compared to its competitors and the marketplace in general. It is calculated by taking the total sales in a company over time and dividing it by the total sales in the industry that the company operates in.
Total Company Sales Over Time / Total Industry Sales Over Time
One of the strengths of this metric is that the time period is flexible and so the market share can be calculated for any time relevant time period. This can be useful as a company trying to increase market share might want to see the impact of its new marketing strategy or product launch.
Mature businesses will want to dominate their market and become the market leader. For these established companies’, growth may be low, and they will focus resources on aggressively protecting their share and keeping hold of their customer base.
Business metrics provide a way of assessing the performance of a business. They can be used by management to make long term strategic decisions, or by small teams assessing the performance of a project. Metrics in business can refer to many different data points and outputs and their use can be as comprehensive as a company wants, as long as the metrics are useful and meaningful to them.
Business metrics should be chosen so that the strategic goals of the business are related to them. Once done, metric targets can be built into management planning so that progress can be tracked and evaluated.
In a business, metrics are commonly integrated into a dashboard. A dashboard is a software solution that is designed to ensure that relevant and appropriate information is available and presented in a simple way to business leaders (or other users). A good dashboard gives an overall picture of the current state of the business but also allows users to search data and look at detailed and granular information.
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