Most business owners are always looking for ways to improve their business. However, in many cases it is hard to know where the greatest opportunity for improvement exists unless you benchmark your company against competitors and other companies in your industry. Without benchmarking there is a real risk of letting your company become stagnant from a competitive standpoint or worse, get left behind as your competitors seek ways to improve, cut costs and add value.
Entrepreneur Magazine defines benchmark as, “A standard or point of reference in measuring or judging the current value or success of your company in order to determine your future business plans.” By benchmarking your company against your industry peers, you will gain very valuable information about your business and most importantly, find areas you may not have realized could be dramatically improved. The ultimate goal of benchmarking should be to make sure you are a competitively viable business and find ways to maintain or build a competitive advantage.
Benchmarking helps a company identify its strengths, weaknesses, opportunities and threats. A simplified benchmark analysis should be adequate for most small and mid-size companies.
The first step to benchmark your company should be to prepare a common size income statement which shows expense items as a percentage of sales/revenue and a common size balance sheet which shows individual balance sheet accounts as a percentage of total assets. Industry average common size statements should be obtained and compared to your company’s results. More than likely, a side by side comparison will reveal some very interesting results that you may not have been aware of previously. For example, you may already know that you are spending too much on overtime labor costs but a simple benchmark analysis may help you see that you are spending 30% more on labor as a percentage of sales compared to your competitors. This small but critical piece of information alone would help you understand in bottom-line terms that you need to improve productivity, improve production planning and manage labor costs better.
Other important financial benchmarks include key operating ratios such as Cost of Goods as a percentage of sales/revenue and profitability ratios such as operating profit margin, gross profit margin, return on total assets and return on equity. Other equally important ratios include liquidity ratios (good indicators of your ability to pay liabilities), turnover ratios (indicators of effective management of inventory, accounts receivable and accounts payable) and leverage ratios (indication of the strength of a company’s balance sheet). The potential to identify operational and management improvement opportunities is tremendous and too easy to ignore. This relatively simple analysis could lead to substantial improvements and potentially increase the profitability and value of your business.
Of course, identifying improvement opportunities is just one step. Developing and implementing strategies to actually obtain results is the next and more difficult step but identifying opportunity and seeing how you stack up against the competition is a necessary first step.
By: Edward L. Fixen
Author: Mr. Fixen is the President of BusinessQuest, a business valuation and M&A brokerage firm serving small & mid-size, privately-held businesses throughout the Inland Empire and can be found at www.BusinessQuestBrokers.com.