Tyler is answering your questions about key performance indicators and how to track them to increase profitability and grow your business.
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This week’s guest, Tyler Otto, works with small business owners in the hospitality industry to ensure that their bookkeeping practices are guiding them towards maximizing their profits and growing their business to its fullest potential. For additional bookkeeping and tax content, find him on YouTube at Specialty Bookkeepers.
Watch: Episode #5 of On the Money Mondays
https://www.youtube.com/embed/laCzRz_U42s
Below is a revised transcript of the above video:
Which KPIs should you be keeping track of?
Every business is different so there’s no single, simple list of key performance indicators that you as a small business owner should be tracking and monitoring.
“There's always something different that you can be doing to help move the needle for your industry,” says Tyler. But the central indicators that remain static across the board and can be applied to nearly every business are these ones:
Cost of sales margins
Labor margins
Top line profit margins
KPI calculations go hand in hand with accounting. Think of accounting as the foundation of the house that you build your metrics and your KPIs on in order to grow your business.
Accounting and bookkeeping vs. KPIs: What’s the difference?
This is a question Tyler says he gets a lot: what is the difference between accounting and bookkeeping and tracking your KPIs? “For us,” he explains, “it's a difference of offense versus defense.”
Tyler classifies bookkeeping as getting your financials in order so that you’re compliant with tax legislation and so that you have everything you need in place when it comes time to file. Metrics and KPIs, however, are a level beyond basic bookkeeping.
“It's taking your business to the point where you can identify those key levers that you can focus on to drive profitability and grow your business,” Tyler says.
Identifying important KPIs to grow your business
Tyler says that identifying your business’s unique key performance indicators is a little bit of an art form. “Sometimes we advise that you get connected with help that specializes in your industry,” he adds. For the most part, however, it's going to be depend on two things:
What is your primary expense?
How can you drive revenue?
It’s up to you to decide when the right time to begin tracking KPIs — some businesses can survive without it but if you’re really serious about the health of your business, you want to start tracking as soon as possible and in real-time.
KPIs for increasing profitability in retail
Retail offers a lot of options for increasing profitability through the tracking of KPIs.
Cost of sales margin
The big one is cost of sales margin which means looking at your cost of sale expense divided by your revenue. (Break that out between product lines too if you track those costs separately and the revenue separately.) This is going to allow you to make sure that your costs aren't incrementally increasing on you, and if they do, total revenue might have to follow proportionately.
Labor margin
Retail shops typically have a human component that has to deliver on service — your labor. You want to track your labor margin as a percentage of revenue. Just like cost of sales, you can see if it's going up or down and figure out the reason why and adjust on the labor staffing side or increase your prices.
Shipping margin
One of the other ways we can drive profit is by tracking the shipping margin: the cost of shipping expense divided by revenue. There are certain things that can happen in the world such as gas price increases or turmoil in other countries that are going to increase the cost of shipping. If that margin starts to go up, you may have to adjust your prices to cover that margin increase and maintain profitability.
Current ratio
A bonus item that most businesses, not just retail, can look at is your current ratio: your current debts, all your accounts payable, credit cards, your current assets, your receivables and your cash in the bank. Divide your liabilities by your revenue. If you can't cover all your liabilities (for example, if that ratio is below one), you're in trouble.
If that ratio is six or seven, you're sitting on a lot of cash that you could be using to drive value, such as buying in bulk to get a greater bulk discount. If that ratio is a large number, look for ways to leverage that.
Short-term rental KPIs to pay attention to
Number of occupants
Number of occupants ranks among the most important and easiest KPIs to track if you operate a short-term rental property. The reason that's important is because the more people in short-term units, the more wear and tear.
This correlates both with necessary property improvements and cleaning costs. If you have the number of occupants recorded in your financials, you can calculate cleaning fees per occupant and find out if you need to charge more or better anticipate the volume of cleaning staff required.
FF&E reserves
You can also start using the number of occupants to forecast FF&E reserves — the amount of money you hold aside for improvements on the property. FF&E reserves are furniture, fixtures and equipment — those hard goods on site that aren't fixed assets but still need to be replaced every so often because they're crucial to the success of the business.
Guest amenity margin
Another thing to track with short-term rentals is the guest amenity margin. These are small amenities like toilet paper, tissue, coffee, coffee filters, etc. It’s possible that you’re putting too much and that those items are walking off the property when people leave. Start tracking the usage of those items per occupant so that you can see if you're leaving too much money on the table.
Booking commission fees
You also want to be tracking booking commission fees. There are multiple channels and platforms that bring guests into your unit — some of them take a 15% cut, some of them take 10%, some take 5%. By tracking your booking commission expense divided by your top line revenue, you can see that margin over time and see where you're getting hurt by where those sales are coming from. Then you can figure out ways to divert bookings to channels that incur a lesser expense.
Discount Margin: Reducing fees to maintain or expand your client base
Ultimately this is not only a question of financial metrics, but a question of business strategy, too. As a startup or small business owner, strategy is up to you, however, there are metrics to help you decide if reducing fees is a sound one. In order to keep track of the percentage of your business you’re giving away as a discount, you're still going to charge full price on your invoices, apply a discount, and map that to a different revenue line.
Calculate a discount margin, which will be the discount divided by revenue. It's up to you to decide on the maximum amount of your business you want to discount. Maybe it's 20%, maybe it's 10%. Track the ups and downs of those discounts and make sure that you don't dig yourself into a financial hole by giving away too much of your service to the degree that it affects your bottom line.
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