The main bread and butter of any company are its gross margins. It’s what your boss wants to see and provides a means of understanding the health of the company. What does management care about? Gross margins, and that all comes down to the profitability of your company. Numbers without a reference mean nothing and analyzing your profitability allows you to see where that profit is truly coming from. With 2020 drastically changing our usual margins, your profitability analysis is more important than ever.
Here is a breakdown of the 3 ways to improve your profitability analysis now.
1. Use drivers, not cost allocation
The old method of cost allocation has always assisted in creating an easily understood analysis of profitability - I mean what else are income statements for? The issue with this outdated method is information is lost in the allocation of shared and indirect expenses - especially when divisions and subsidiaries are taken into consideration.
For example, a finance manager is in charge of three teams of bookkeepers working on different divisions. Their salary expense is paid by the parent company and the cost allocated equally across all three subsidiaries. The manager, however, spends the majority of their time, almost 60% with only one team. This inflates the manager’s expense for two of the divisions while devaluing the true cost for the third.
By using business drivers instead of cost allocation, the health of the divisions, and the company as a whole becomes clear. Maybe that division is the oldest and the books are a mess. Maybe the finance department of a new division is struggling to keep up with expected reports. Regardless, by using this method of cost allocation the issue is not apparent and the reason behind this large fluctuation remains unseen and unknown.
Business drivers, the actual activities, and their corresponding inputs create a true picture of the business. They are the operational and financial results that include specific numbers rather than summaries of them. By utilizing business drivers decision-makers can guarantee they are making decisions on accurate, actionable intelligence.
The concept of benchmarking is using company-wide, industry accommodating, and economy considering comparisons to determine actual performance. An increase of 10% in the cost of labor may look bad on the managers but when compared to an industry average of 30% an entirely new picture is formed.
2020 is the year of benchmarking as no business can accurately measure its performance without taking into consideration all the external factors - and this year has an abundance of them. Moving to remote work, incorporating new software types, changes in the amount of manual labor that can occur due to new social distancing restrictions - these all need a basis of comparison.
Accurate benchmarking gives management the ability to see what truly needs improvement. Within a profitability analysis just using the actual numbers can give the wrong idea and can lead to internal decisions that hinder rather than help the company. The manager that was able to keep an increase of labor expense to 10% may be fired rather than praised. Incorporating benchmarking into your profitable analysis goes beyond the gross margins and provides valuable insights into the true health of the business.
3. Conduct Analyses Often
Many think of profitability analysis and budgets as an annual task to be done in Q4. This mindset is outdated and any business still working with this schedule is falling behind. It is time-consuming to compile budgets, forecasts, and reports but generating them more often comes with numerous advantages. Analyses provide the ability to make faster, more accurate decisions. They give real-time insights into the health of an organization and ensure goals are being reached.
With the majority of companies still working with spreadsheets, the idea of jumping on this bandwagon has seemed blasphemous to say the least. Now, however, methods are available to give your spreadsheets the makeover they deserve. It is possible to give your department the ability to generate reports, analyses, and the like instantly - never needing to leave your trusted spreadsheets.
Microsoft Office offers premade customer profitability analysis templates that can track average costs per customer, average profit per customer, and much more allowing you to stay in excel while creating reports quickly and efficiently.
Flevy provides bundles for any business or department with its library of frameworks, templates, and tools. Flevy offers a product profitability analysis tool that analyzes each product so you can truly understand profitability and the factors leading to it.
DataRails is a financial analytics platform that allows you to instantly consolidate your financial data by integrating your CRM, ERP, and excel sheets so you can work with your existing interface. With their easy to use platform generate reports and conduct analyses while also providing in-depth charts and graphs for accurate actionable insights.
The New Finance Department
Implementing these three simple methods to improve your profitability analysis will improve your analysis processes as a whole. Past capacity issues are just that, a thing of the past. With these tried and true methods, the business will be able to make better, more accurate decisions faster.