How would you feel about taking a cross-country road trip without knowing the amount of gas in your tank, engine temperature, or oil pressure? That’s why you have an instrument panel on your vehicle’s dashboard.

Your business can have a dashboard, too, that features critical performance indicators (KPIs). However, if they’re too complicated to create and monitor, you might veer off course or crash while staring at your dashboard. Some metrics may apply to any business, while others must be customized for your specific operating conditions.

Profitability

The bottom line on business performance is just that — the bottom line. Over the long run, profitability metrics are essential for every business.

External conditions (such as a government-mandated lockdown or a natural disaster) may temporarily cause a business to lose money. But there may be reasons to operate at a loss temporarily. Examples include start-ups breaking into new markets and low-cost producers trying to take away market share from competitors.  

In most cases, businesses losing money have a problem that demands immediate attention. Common profitability metrics include:

• Gross margin [(revenue – costs of sales) / revenue], and
• EBITDA (earnings before interest, taxes, depreciation, and amortization).

You can determine the optimum level of profitability for your business by researching common profit ratios for companies in your industry, geographic location, and size. Also, make sure that you aren’t under-investing in your business’s future.

Beware: Companies that pursue profits at all costs may suffer adverse effects. For example, if spread too thin, employees may feel overworked, leading to burnout, accidents, errors, and high turnover. Likewise, companies that pay below-market wages or skimp on benefits and training may experience high turnover and difficulty recruiting skilled workers. Cuts to the marketing budget, failure to maintain equipment, and postponed technology upgrades might boost current profits, but they can impair performance and value over the long run.

Employee Productivity

Personnel costs — including salaries, wages, bonuses, payroll taxes, and benefits — are typically a company’s biggest expense category. Management wants to ensure the company is getting its money’s worth, especially as labor rates and health care benefit costs have gone up in recent years.

Some companies use labor cost per unit produced as a KPI. A unit may be a product or service. This KPI may be more relevant when you track it over time and see how it correlates to your bottom line compared to other cost categories. To illustrate, suppose your business is sufficiently profitable today (however you define that), and your labor cost per unit produced is $100. A year later, your wages remain stable, but you’ve invested in new equipment to help boost productivity. If those tools are effective, you’d expect lower labor costs per unit. However, it may take some time to recoup the cost of your investment.

Alternatively, some companies measure labor time per unit produced. For example, a medical practice might calculate the average time spent per patient. That approach lets you isolate the productivity rate of labor from changes in labor cost. This can provide a more straightforward assessment of the impact of new productivity tools.

These “tools” can also be intangible, such as skills training, enabling employees to do more without another change to their work environment. It could even include the introduction of a new department head or supervisor. By tracking changes in the labor cost or time per unit, you can assess whether the new hire positively affects productivity.

Some productivity metrics may be industry-specific. For example, a clothing retailer might calculate average units or dollars for each sales transaction. Or an auto dealership might calculate vehicles sold per week for salespeople or vehicles serviced per week for technicians.

Another metric to consider is spent on productive activities vs. administrative ones (such as meetings, filling out forms, and paid leave). This KPI helps assess the cost of your “overhead” labor. For example, a law office may compute billable vs. nonbillable hours for paralegals and junior lawyers. If the percentage of nonbillable hours increases over time, it might signal a red flag, especially if accompanied by declining profitability.

Productivity can also be measured qualitatively. For example, suppose your company has a goal to improve customer satisfaction. You might ask customers to complete surveys after they purchase a product or receive service and then track the percentage of employees rated at different performance levels. You may decide to reward those with high scores and provide additional training to get under-performers back on track.

Other Target Areas

The rest of your dashboard should be customized based on what drives your company’s value. KPIs differ from one company to the next based on the industry and the company’s objectives. Common examples include:

Operating cash flow.

Cash is king. This metric helps management evaluate how much cash is available for immediate spending needs.

Return on assets.

This metric (net income / total assets) measures how effectively your company manages its assets to generate earnings.

Asset turnover ratios.

How much revenue is generated for each dollar invested in assets? You might want to look at the big picture (revenue / total assets). Or you might prefer to break it down by different categories of assets and evaluate it in terms of days (rather than the number of times an account turns over). For example, you might compute days in receivables [(average receivables / annual revenue) × 365 days] or days in inventory [(average inventory / annual cost of sales) × 365 days].

Productivity metrics also can be industry-specific. For example, a hospital might be evaluated based on revenue per bed or a hotel based on revenue per room. The key when selecting KPIs is that they must be both specific and measurable.

A Custom Approach

These are just a sampling of metrics you can use. When designing your dashboard, the goal is to identify and track the most relevant KPIs. This information can help you promptly make critical tactical and strategic decisions to keep your business healthy in today’s volatile market conditions.

Many IT tools, including project management software, are available to help you crunch the numbers. Your financial advisor can guide you in finding the best way to measure and monitor your business performance.