When you own or are starting a business, you need to implement benchmarking (aka Best Practices). This process helps to determine how your business is performing against your internal standards as well as your competition. Doing so will help you assess how effective or ineffective your business is performing in operations, customer services, sales, or other important areas. With this type of information a small business can make changes quickly, which could be the difference between thriving, surviving or closing the business.

There are many different methods of benchmarking. In this post we will discuss, financial, performance, and strategic benchmarks. With financial benchmarking you are reviewing how competitive and productive you are. Performance benchmarking is how well your product or services compares with competitors. And Strategic benchmarking is the process of reviewing how others are competing, and can include data from industries other than yours for comparison purposes.

The financial aspect includes doing a total financial analysis of your business. There are many accounting and financial ratios you can use, but the ones you choose should be meaningful to your daily operations. For example, a retail store would want to know the sales per square foot and a service business might want to know the profitability by client. The financial information will help you determine where you may need to adjust your spending, sales efforts, marketing campaigns or employee compensation in order to generate more profit or productivity.

Sometimes you may not care how your business compares with your competition, but you should be knowledgeable about how their product or service is performing in relation to yours. Are you loosing contracts to your competition? If so, have you found the one or two key reasons? Are your customers frequenting their store more often than yours? Or are customers spending more money with you or with your competition, i.e., how profitable is each customer? This process will help you to determine what you need to fix in order to be more competitive. This process can take a lot of time in order to complete because you have to gather the information, although some of it can be found within the numbers (i.e., your financial statements).

The last benchmarking aspect as to do with strategy. When you started your business you created a business plan which provided you with direction as to where you were going and how you were going to do it. Now that you have been in business for a few years, it is time to reassess your planning. This process will not only include the industry that your business is in, but other aspects from other industries that might be applicable to your business.

While benchmarking does take time, it can provide valuable information that you can use to improve your business. The different types/methods of benchmarking can be used together for a more accurate picture of where your company is in relation to your competitors, the industry, and your own internal goals.

A benchmark is an internal or external measure of how your business is performing. Benchmarking is also described as Best Practices and/or Ratios. Benchmarking is the most effective way to monitor and track the progress of how your business is doing, both good and bad. When you take a look at how you can make your business better or what is already working well within your business, information from the benchmarks will help you determine what should be your next steps.

You can use benchmarks to compare your business to itself or you can use them to determine how you compare to the competition. The type of benchmarks you use will be dependent on the type of business you are in, your industry and the information available about your competitors (i.e., is data available for free or low cost).

A great example of benchmarking is a yearly review for an employee. All employees have specific job functions in which need to be performed daily, weekly or yearly. Usually once-a-year a performance review is done with each employee to see how he or she is performing his/her job duties. The results will determine which areas need improvement as well as which areas the employee is excelling. This is much like benchmarking for businesses. By assessing your own company on a regular basis, you can determine what needs to be done to improve on the weak areas and capitalize on the strengths.

There are various ways to implement benchmarking into your business. Some ideas are to identify and address known problem areas, areas that can use improvements (these are not necessarily problem areas), and areas that are doing well. Establishing a plan for how frequently to preform benchmarking and which items to measure will help maintain consistency in your analysis.

Once the problems are identified, start with internal research to determine any possible establish quick fixes. Interviews with business owners or companies who are doing good in your area of weakness can be helpful for either establishing a new benchmark or for gaining ideas on how to improve upon a weak benchmark. Establish a positive relationship with a prosperous business to gain insight and ideas on how they overcame the obstacles your business is facing. Once this information is learned and collected, the most important step is to implement the information and continue to monitor results. A benchmark should be revisited at least annually, or as needed.

Benchmarking is an important role that the company leader should utilize to ensure the business is meeting goals and performing effectively. Adding benchmarks for different units or divisions of a business is good practice as well. Revisit your benchmarks yearly to ensure they are still relevant to your core business so that you can remain competitive and successful.

What does the term net worth mean? And why is it something a business owner should pay attention too? The actual definition of net worth is: total assets minus any total liabilities. Unfortunately, this is not helpful to those unfamiliar with accounting terminology.

Let’s take a closer look at this. Net worth is a combination of money invested by the business owner and an accumulation of profits over the life of the business. In general, net worth can be described as the overall difference between what a company owns versus what it owes.

Sometimes a company may need an influx of money in order to buy new equipment, purchase a new building or develop a new product. Or perhaps they need money for advertising. Whatever the reason, the owner can either put more of his own personal money into the business, which increases his equity in the business, borrow funds from a bank, or seek an outside investor. If a company has reached its borrowing capacity they may need to add a partner/shareholder rather than seeking money from a bank.

The net worth of a business should increase each year. This assumes that the business is generating positive net income (i.e., sales are greater than your expenses). Even if your net income is increasing each year, your net worth could be decreasing. There are a few reasons for possible decreases, such as the owner taking distributions out of the business or an increase in debt (which can decrease net worth as a percentage, not dollar amount). But the important thing for any business owner to keep in mind is, a positive net worth does not a guarantee success, but a negative net worth could be reasons to assess your business and make immediate changes.

Debt is a word that many business owners do not want to use to describe their financial position, yet managing and monitoring debt is a task that small business owners tend to avoid. In general, debt that is due and payable within the next 12 months is called Current Liabilities. Paying these debts will probably require converting some assets into cash, such as collecting Accounts Receivable or selling Inventory.

Current Liabilities are generally monies owed to employees or suppliers. In addition, you should record reserves for taxes and short term loans, when applicable. 

Why is the classification of Current Liabilities important? In order to extract a true picture of the company’s ability to pay the debts you need to consider what is due now and what is due later. While your long-term debt require payments on a on-going basis, you have more flexibility to renegotiate the terms on long-term loans than you do on short-term items.

Comparing your Current Assets to your Current Liabilities will let you know how much liquid cash you may have if, for some reason, you needed to pay your short-term debt today. Formula note: divide Current Assets by the Current Liabilities to get the Current Ratio result; this result should be greater than 1 to 1. If your Current Ratio result is too low, you might not be able to pay your short-term obligations.

To determine the amount by which your Current Assets exceed your Current Liabilities subtract these two amounts to determine your Working Capital. Working Capital is basically your operating liquidity, i.e., the amount available to satisfy short-term obligations and upcoming operational expenses.

When you compare trends of the Current Ratio and Working Capital for your company over time you will get a sense of how well, or poorly, you are managing your short-term debt. Whether or not you want to, you must become comfortable with reading your company’s balance sheet in order to make good business decisions. Otherwise, ugly words like debt may become unmanageable.

Potential investors, lenders, stock holders, and business owners all like to know how well a company is doing financially. One way to determine the financial performance of a company is to review the Balance Sheet. The Balance Sheet is basically a snap shot of the items a company owns, owes and the difference between the two, called net equity. Every section of the Balance Sheet is important, but this post will focus on the current assets.

Current assets are defined as the items that will be used by the business or converted into cash within a 12 month period, generally the calendar or fiscal year. Assets include items such as Cash (or cash equivalents), Inventory, Accounts Receivable, Prepaid Expenses, and Marketable Securities.

Two accounts to track on a regular basis are Accounts Receivable and Inventory. How quickly you collect payments your customer owes you will depend, in part, on the industry you are operating within. For most businesses, you should be collecting payment in full from your customers at least every 30 days. Failure to collect money on a timely basis will tie-up this much needed cash, which could lead to cash flow problems. Use the Receivables Turnover Over ratio to determine how often you “turn” your collections each year. Convert that information into the Average Collection Period to get the number of days your Accounts Receivable are outstanding.

It is important to monitor the balance in your inventory account too. Too much inventory will tie-up cash unnecessarily. Yet too little inventory will cause you to miss out on possible sales. Use the Inventory Turnover ratio to determine how often you are “turning” your inventory per year. Again, you can convert this information into the number of days inventory sits on the shelf.

The saying “Cash is King,” has merit, but if you don’t use the Balance Sheet as a tool to figure out where your cash is going or where it is tied up, you’ll never have enough cash to run your business effectively. While a Balance Sheet does not give you the entire picture, the current assets section of the Balance Sheet can be a great starting point to assess how you are doing and what you need to do next.

The economy is tough, but even when the economy is good there are many businesses that close their doors. Some of these failed businesses could have stayed open if they invested a little time in Contingency Planning. Many people don’t want to think of what might happen to their business if things don’t go as planned; however, this missed planning opportunity leaves them with few options when things do go wrong.

Contingency Planning is usually a tiered process. Usually, when you put a Contingency Plan in action you start with the easiest or least dramatic change. For example, your cash flow is low and you are having problems paying the bills. Your first plan may be to secure or utilize a line of credit with your bank. If a line of credit is unavailable or maxed then you need to cut costs. You can approach your landlord and ask for terms to be renegotiated so that you can afford to stay in your current location. You can evaluate your current expenses to determine where you can easily and quickly save money, i.e., reduce marketing or advertising expenses, reduce meals and entertainment, etc. Or as a last resort, you might ask your staff to take a pay cut or layoff some of your employees, which is my least favorite option. These changes may help to increase cash flow long enough to get you through the tough times.

If you offer credit terms to your customers, you could consider factoring your Accounts Receivable (AR). This is a quick way for you to get cash from your AR, but factoring does reduce the overall amount of funds you receive so consider this option carefully. If you are still in need of cash but do not have any more available credit with your bank another option is to sell an interest in your business. The amount of cash you receive will depend upon the type of business you own and your willingness to give up a portion of ownership in your business.

As a last resort you may decide that you would prefer to sell the entire business rather than adding another owner. If a willing buyer cannot be found, you might be able to find someone who is willing to take over the business “as is” including all debts; this is called a transfer of ownership. Ending the business by walking away is not a very good option. There are usually assets that can be sold and/or Accounts Receivables that can be collected. While not easy, you can try to sell the business assets or portions of the business so that you can generate enough cash to pay your outstanding debts.

Whether your business is new or established, Contingency Planning is very important. It does not hurt your business to have a plan in place in case problems occur. On the contrary, this type of planning could very well help you survive tough economic times or an unforeseen disaster.

1. Briefly describe the services offered by Scribendi.com.

Scribendi.com is an award-winning online editing and proofreading provider. We provide individuals and organizations with fast, affordable, professional document revision services.

Clients can come to our site and choose their service, get a free quote, and upload their document to our secure server in less than five minutes. The most appropriate available editor picks up the order, does the work, and the revised document is uploaded to the server, and the client gets an email letting him/her know the document is ready for pickup.

2. What prompted you to start Scribendi.com?

I started Scribendi.com in order to provide people with a more modern alternative to traditional editing services. Prior to launching the business, I was a freelance journalist, and it baffled me how many of my colleagues didn’t have access to a professional editor. I created Scribendi.com in order to provide writers with quick, convenient access to trained professionals, 24 hours a day, 7 days a week.

3. You have been in business since 1997. What strategies have you put in place to ensure your business can survive economic downturns?

Due to the international scope of our business, my partner and I have always monitored financial markets closely. So, when things went south, we were ready. When times are good, you need to put resources aside to use when times go bad. Too many people and companies alike assume that the good times will be around forever, and spend freely. We were more cautious and, as a result, we can continue to grow and expand our services without any problem.

4. On your website you stated that you have locations all over the world. How easy or challenging is it to manage employees working out of multiple locations?

Our developers spent a lot of time designing a pretty comprehensive administrative system that allows all of our international employees to check-in directly with headquarters. In this day and age, with all the communication tools we have at our disposal, it’s not exactly hard, but it does require constant attention and effort.

5. How do you use financial statements in your business? What is one major business decision have you made or not made based on the data from your company’s financial performance?

Yes, we review our statements on a monthly basis, and we do projections quarterly. The results usually affect our decisions on when to go ahead with the various capital projects we have queued up, although typically our projects are less subject to monetary constraints than they are human resources constraints.

To learn more about how Scribendi.com can help you with your editing or proofreading needs visit their website.

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In my last two posts I discussed the financial tool, Net Present Value (NPV) in detail (NPV and NPV Example). However, often times the Payback Period method is used to evaluate a purchase or expansion project. The difference between NPV and the Payback Method is that the Payback Method doesn’t discount the future cash savings/cash inflows for the time value of money.

The formula for the Payback Method is: payback period = initial investment divided by annual savings/revenue. For example, you need to buy a new machine that will improve your efficiencies, thereby reducing your expenses by $20,000 per year for the next 6 years. The machine costs $100,000 in today’s dollars. Formula: 100,000/20,000 = 5. Therefore, using the Payback Method, you would see a “payback” on your investment by the end of the 5th year. Note: the payback method does not tell you if your purchase will provide positive profits over the long-term, but rather the length of time it will take for you to “recoup” your initial investment, ignoring the time value of money concepts.

This purchase might make sense at first look, assuming the machine will provide cost savings for more than 5 years. The Payback Method can be used to perform a first level evaluation of a potential purchase. Using the Payback Method you might determine that one purchase isn’t feasible because the payback period is just too long. However, run a quick NPV calculation to make sure the project truly isn’t profitable for your business.

As I showed in the NPV Example blog post, when you convert the $20,000 per year cost savings into their Net Present Values the true net cash flow for the investment will be a ($11,723). This is because a dollar tomorrow is less than a dollar today and the value lessens the further out in the future you go.

While the Payback Method might be easy to use, it does not take into consideration the time value of money. Relying solely on the Payback Method might result in poor purchasing decisions. A quick NPV calculation may save you the disappointment from future low returns on the cash you spend today.

In my last blog post I discussed a financial tool, Net Present Value (NPV). In this post I’ll use an example of how NPV works. You can refer back to this information whenever you need to make a large purchase decision.

In order to perform the calculation you will need to know:
1. The discount rate (usually a target return on investment rate or the current market rate),
2. The number of years the project/equipment is to last, (note: MS Excel doesn’t require this item)
3. The cost of the initial investment, i.e., cost of equipment or new project,
4. The estimated the cash flow for each year of the project or cost savings from the more efficient equipment (or increased revenue).

Let’s assume a discount rate of 10%, 10 years, initial cost of $100,000 and annual cost savings for 6 years of $20,000. Note: Input the initial costs as a negative number, i.e., -100,000 in your formula. Using MS Excel, find the Finance formula function for NPV. It will ask for the rate, input this as a percent, such as .10. Then it shows a field for Value1, input this as a negative number, as discussed above, -100000 (this is your cash outlay). Then input the value 20000 in the Value2 through Value7 slots (for the $20,000 of annual savings for six years). Using the NPV formula this equipment returns a value of ($11,773), so this equipment is actually costing more money than it is saving. For this purchase to provide a positive value the annual savings of $20,000 would need to occur for 8, not 6 years or the interest rate would need to be about 5% instead of 10%. This MS Excel calculation took less then 2 minutes to complete!

Of course these figures are based on estimates, so you need to be as realistic as possible. Since you use estimates in order to calculate the Net Present Value keep in mind that the results are not guaranteed. However, this is true for any similar evaluation of future outcomes. It is also helpful to perform two calculations; one as a best case scenario and one as worst case scenario. Combine the results from these two estimates and evaluate if the purchase would still show a net positive result.

Many business owners rush out and make purchasing decisions without doing any analysis on whether or not that asset will add value to their business. While many purchases cannot be avoided, such as repairs or replacement of old equipment, it is still worth the time to assess the cost and/or benefit of the purchasing decision.

They are predicting a very slow economic recovery. But that doesn’t mean you should wait to make purchasing decisions for your business. On the contrary, you should buy that asset — if you do so wisely.

It can be challenging to determine whether or not you should make an investment. You make every effort to invest in equipment or a project that is going to earn you more money than it costs. Therefore, it is important to use some sort of calculation to figure out how much the project is likely to earn so that you can determine whether it is worth the initial investment. There are a number of different methods to do this, but one of the better options is the Net Present Value (NPV) method.

In the Net Present Value method, you determine how much your return on a project will be using today’s dollars, so you can figure out whether the initial purchase price or investment makes sense. If the NPV is more than what the initial investment costs would be, it would be a profitable investment. If, however, the NPV is lower than the initial costs it would most likely lose you money so you should pass on the investment. This can also help you to choose between two different options that you are considering as you should choose the one with the higher NPV.

The Net Present Value calculation isn’t all that difficult to do if you have a calculator with special functions. You can find the formula online. However, you will also find Excel spreadsheets work well, or online calculators such as the one at Investopedia.

In my next blog post I’ll provide an example of how to use NPV in your business.