Chartered accountant GAIL FREEMAN says using benchmarking ratios can be an effective comparative way of understanding how a business is performing.

Jess and Nat have been in business for 18 months and were keen to know if their small profit was within the range of similar small businesses.

I told them that what they were alluding to was known as bench-marking. “This can be very sophisticated or quite simple,” I said.

“Simply, it is the process of identifying, understanding and adapting practices from high-performing organisations to your small business.

“The concept is that you measure and compare your business processes and outcomes against the leaders in your industry. For a small business this is not so easy, which is why I recommend we look at financial benchmarks.

“The American Quality Council suggests four types of bench-marking, but as I said, for simplicity, let’s limit this to initially talking about financial benchmarks only.”

I told them that the Australian Taxation Office (ATO) publishes benchmarks by industry and recommends that businesses compare their results with others in their industry.

“They use these benchmarks when processing tax returns to see how that business compares with industry norms,” I said.

“The benchmarks are grouped by turnover size. We use these benchmarks when we are reviewing financial statements to assist our clients to make wise business decisions.

“In your industry the average cost of sales is 52 per cent, using your turnover level. However, for your retail business the average cost of sales is 45 per cent. This is great because your gross profit is higher than many others in your industry.

“I put this down to your savvy buying system, which means you are paying less for your goods than others. Well done.”

Nat said that was a relief and that they had no idea how they were doing beyond the small profit.

I said: “My professional association, Chartered Accountants Australia and NZ, recently published many benchmarks for small business and these also confirm that your profitability is excellent.

“They also show other ratios such as wages as a per cent of sales and this can be very useful for confirming that your staffing is correct.

“Among the ATO benchmarks is rent as a percentage of turnover. In Canberra this can often produce an unusual result against the benchmark because rents here are often higher than in other cities.

“This is nothing to be worried about as you have to pay the going rate for rent. As you buy so efficiently and have a higher gross profit than others in your industry then paying slightly more for your rent than the average does not distort your figures in any way.

“The benchmarks that I have been referring to show quite clearly that the size of the business and profitability can vary depending on the management team in the organisation and sundry other factors. They are useful to look at on an annual basis just to see how you are going.”

Jess was pleased and relieved, and said she was looking forward to reviewing the business again next year.

If you need business help to review your profitability or your taxation position contact the experts at Gail Freeman & Co Pty Ltd on 02 6295 2844, email info@gailfreeman.com.au or visit gailfreeman.com.au

Disclaimer
This column contains general advice, please do not rely on it. If you require specific advice on this topic please contact Gail Freeman or your professional adviser. Authorised Representative of Lifespan Financial Planning Pty Ltd AFS Lic No. 229892.