Different Types of Financial KPIs and How to Track Them

Introduction

Key Performance Indicators, or KPIs, are measurements that track how well a business is accomplishing its objectives. Financial KPIs specifically focus on the financial health and performance of a business or organization. These indicators provide a clear picture of how successful a company is at generating revenue, covering costs, and achieving overall financial growth.

Within a financial KPI system, there are many methods and measurements that can be used to define a company's success. The following is an overview of the key financial KPIs and how to track them.

Profitability

Profitability is a key component of financial health and businesses need to understand which metrics can give them the best representation of how profitable they are. The two main metrics of profitability are Gross Profit Margin and Operating Profit Margin.

Gross Profit Margin

Gross Profit Margin is a metric that measures the percentage of money a business earns from their sales that remains after deducting the cost of goods sold. This profit is sometimes referred to as gross profit and can be calculated by subtracting the cost of goods sold from the total revenue, and then dividing by the total revenue. This gives you the Gross Profit Margin in percentage. By monitoring this metric, businesses can measure how profitable their products and services are and identify areas where they can increase their profit.

Operating Profit Margin

Operating Profit Margin is another key metric that measures the amount of profits that a business can generate after deducting their operating costs. Operating costs include cost of goods sold, salaries of employees, rental expense, depreciation, and other costs associated with running a business. This metric can be calculated by subtracting the operating expenses from the gross profit and then dividing by the total revenue. By monitoring this metric, businesses can determine their ability to generate profits from their operations. Additionally, businesses can gain insight into which particular expenses may be causing operating costs to increase, thus resulting in lower profits.

Businesses can track these KPIs to get a better understanding of their overall profitability and gain insight into areas where they can improve their operations to increase profits. By monitoring these metrics, businesses can identify areas of improvement in order to make more efficient use of their resources and capital.

Liquidity

Liquidity is an important component of any business as it determines how quickly it can pay its liabilities. It is thus essential for businesses to track two key financial KPIs that measure their liquidity: current ratio and cash ratio.

Current Ratio

Current ratio, also known as working capital ratio, is a measure of a business's ability to pay its short-term liabilities with its short-term assets. It is calculated by dividing current assets by current liabilities. Higher the current ratio, higher is the business's liquidity. However, a current ratio higher than 3 – in some industries even 2 – could be an indication of inefficient use of assets as it indicates that there might be too much money tied up in current assets that could have been put to better use.

Cash Ratio

The cash ratio is a more stringent measure of liquidity than current ratio as it measures the ability of business to pay its short-term liabilities with its most liquid asset, cash. It is calculated by dividing cash and equivalents by current liabilities. The cash ratio of a business should ideally be 1 or above. If the cash ratio is lower than 1, it indicates that the business does not have enough liquid asset to pay its short-term liabilities, which is a cause for concern.

Businesses need to continuously track their liquidity through the current ratio and cash ratio to ensure they are able to pay their short-term liabilities when they arise. Businesses with a liquidity ratio lower than expected should take steps to manage their cash flow. This could include borrowing short-term financing, negotiating better payment terms with suppliers, or getting money from investors.

Efficiency

When monitoring the financial performance of a company, it is important to consider the efficiency of operations. Efficiency takes into account how well a company is able to use its resources to generate profits, and it can be broken down into two key performance indicators (KPIs): return on assets (ROA) and return on equity (ROE).

Return on Assets (ROA)

Return on assets (ROA) is a measure of how profitable a company is relative to its total assets. It is calculated by dividing a company’s net income by its total assets. A higher ROA indicates that the company is using its assets more efficiently to generate profits, while a lower ROA suggests that the company is not using its assets in the most profitable way.

Return on Equity (ROE)

Return on equity (ROE) is a measure of how much profit a company is able to generate from its equity capital. It is calculated by dividing a company’s net income by its total equity. A higher ROE indicates that the company is using its equity more efficiently to generate profits, while a lower ROE suggests that the company is underperforming in terms of generating profits from its equity capital.

To track these efficiency KPIs, companies should review their income statements and balance sheets for the most up-to-date figures. Companies should also review their ROA and ROE over time to gain insight into trends in efficiency over time.

Investment Activity

Financial KPIs, or Key Performance Indicators, are key metrics used to measure, track and analyze the performance of an investment’s stock market performance. Below are two of the most commonly used Financial KPIs, as well as how to track them.

Earnings Per Share (EPS)

Earnings per share (EPS) is a financial ratio calculated by dividing the company’s net income by the number of outstanding shares. It reflects the amount of income that each share receives in a given period. To track an EPS, investors should analyze the company’s income statement, compare it with past reports and investigate any changes in EPS over time. EPS can be compared to other companies in the same industry to assess success.

Price-To-Earnings (P/E) Ratio

The price-to-earnings (P/E) ratio is a calculation that measures the market price of a company’s stock relative to its earnings per share. It allows investors to quickly evaluate how much a stock is trading for against how much income it generates. To track the P/E ratio, investors can use a variety of sources and websites to compare the company’s P/E against that of its competitors and industry averages. Additionally, investors should pay attention to any changes in the P/E ratio over time and compare it against similar companies in the same industry.

6. How to Track KPIs

Once the appropriate KPIs have been identified for the financial planning process, the next step is to select and set up appropriate data tracking systems. Depending on the number and type of financial metrics to be tracked, two primary methods exist to track KPIs: automated e-record systems and Excel spreadsheets.

A. Automated E-Record Systems

Automated e-record systems, such as document management systems and customer relationship management (CRM) programs, are typically used for larger businesses that need to track and analyze numerous financial metrics over multiple periods of time. These systems are beneficial because they can be used to store large amounts of data, track performance over a period of time, and generate reports and graphs that can help illustrate trends. Furthermore, automated systems can be configured to automatically track and alert if certain financial thresholds are exceeded, allowing businesses to stay on top of their performance and take corrective action if needed.

B. Excel Spreadsheets

Excel spreadsheets are also a great way to track and monitor different KPIs. With the ability to set up formulas, perform calculations, and create graphs and charts, Excel can be used to create meaningful visualizations of financial performance data. Furthermore, thanks to a wide range of add-ons and plugins, Excel can be extended to enable the tracking and monitoring of a wide range of different financial metrics. With the ability to custom-tailor the data view, Excel spreadsheets are a great way to track and monitor different financial KPIs.

Conclusion

If businesses want to succeed, they must track key performance indicators (KPIs) to monitor their progress and make informed decisions. Different types of financial KPIs exist that can provide understanding into a company’s overall financial performance, such as profitability indicators, liquidity, efficiency, and working capital. KPIs vary across industries, however, so businesses should approach selecting their key KPIs with strategic thought.

When selecting KPIs, businesses should consider the four steps of KPI selection: establish objectives, identify KPIs that line up with objectives, assign numerical values to these KPIs, and segment their KPIs. By following this process, companies can track the KPIs that give them the most insight into their financial performance and the best opportunity for success.