You do not need a data warehouse or a dashboard subscription to track how a small business is doing. If the books are up to date, the profit and loss account and balance sheet already hold the figures for a useful set of key performance indicators. This guide gives eight, with the formula for each, which lines of the accounts to take the numbers from, and a worked example using one set of figures throughout.
The example business
A small wholesaler with six full-time staff. All figures are for the last twelve months, excluding VAT unless stated.
| Figure | Where it comes from | Amount |
|---|---|---|
| Sales | Profit and loss: turnover | £600,000 |
| Cost of sales | Profit and loss: purchases, adjusted for stock | £390,000 |
| Overheads | Profit and loss: all other expenses | £165,000 |
| Operating profit | Sales less cost of sales less overheads | £45,000 |
| Trade debtors (including VAT) | Balance sheet | £86,400 |
| Trade creditors (including VAT) | Balance sheet | £57,600 |
| Cash at bank | Balance sheet | £60,000 |
| Stock | Balance sheet | £13,600 |
| Current liabilities | Balance sheet | £110,000 |
1. Gross margin
Formula: (sales − cost of sales) ÷ sales × 100
Example: (600,000 − 390,000) ÷ 600,000 = 35%
Gross margin shows what each pound of sales leaves after the direct cost of providing it. A falling margin with steady sales points at pricing, supplier costs, discounting or waste. It is only as good as the split between cost of sales and overheads, so keep that coding consistent month to month.
2. Overhead ratio
Formula: overheads ÷ sales × 100
Example: 165,000 ÷ 600,000 = 27.5%
This measures how much of turnover the fixed running costs absorb: rent, salaries outside production, software, insurance. If gross margin is 35% and overheads take 27.5%, there are only 7.5 points left for profit, which is the next ratio.
3. Operating margin
Formula: operating profit ÷ sales × 100
Example: 45,000 ÷ 600,000 = 7.5%
The bottom line before interest and tax. Watching it alongside the two ratios above tells you whether a change in profit came from the trading margin or from the cost base.
4. Debtor days
Formula: trade debtors excluding VAT ÷ sales × 365
Example: the debtors figure includes VAT, so first remove it: 86,400 ÷ 1.2 = 72,000. Then 72,000 ÷ 600,000 × 365 = 43.8 days
On 30-day terms, nearly 44 days means customers pay about two weeks late on average. Forgetting to strip out VAT is the most common error here; it would give 52.6 days and send you chasing a problem that is smaller than it looks. If some customers are not charged VAT, use the actual VAT-exclusive debtor balance instead of dividing by 1.2. A rising figure is the cue to tighten the credit control routine.
5. Creditor days
Formula: trade creditors excluding VAT ÷ credit purchases × 365
Example: 57,600 ÷ 1.2 = 48,000. Using cost of sales as a stand-in for purchases: 48,000 ÷ 390,000 × 365 = 44.9 days
Trade creditors also include overhead suppliers, so this is an approximation; it is fine for spotting a trend. The creditor days definition explains the more precise version. Paying suppliers at roughly the same speed as customers pay you keeps working capital neutral.
6. Cash runway
Formula: cash at bank ÷ average monthly overheads
Example: monthly overheads are 165,000 ÷ 12 = 13,750, so 60,000 ÷ 13,750 = 4.4 months
For a profitable business, this is a stress test: how long fixed costs could be paid if sales stopped. For a loss-making business, divide cash by the average monthly net cash outflow instead. Either way, deduct cash already earmarked for VAT, PAYE and corporation tax first, or the figure flatters you. A cash flow forecast is the better tool once runway falls below about three months.
7. Revenue per employee
Formula: sales ÷ full-time equivalent staff
Example: 600,000 ÷ 6 = £100,000
Useful mainly over time and when deciding on a hire: if a new role does not lift revenue per employee within a sensible period, the cost base has grown faster than the business. Count part-timers as fractions and include directors who work in the business.
8. Current ratio
Formula: current assets ÷ current liabilities
Example: current assets are 86,400 + 60,000 + 13,600 = 160,000, so 160,000 ÷ 110,000 = 1.45
Below 1 means short-term debts exceed the assets that will turn into cash within a year, which is a warning sign even for a profitable company.
Keeping the figures honest
Ratios magnify bookkeeping errors. Before reading them:
- make sure month-end cut-off is right, so sales and costs land in the correct month; see cut-off at month end
- post accruals and prepayments, otherwise a quarterly bill makes one month look terrible and the next two look excellent (accruals and prepayments)
- use twelve-month rolling figures for debtor and creditor days, since a single month’s sales swing too much
- compare each ratio with its own history and your budget rather than with generic industry averages
Put the eight results in one line at the top of your management accounts each month, with last month and the same month last year beside them. Movement matters more than the absolute number.