How to leverage mid-year financial reviews for business growth
The mid-year point is an important time for any business. It’s a reflection point allowing you to look back on how well you did the first half of the year and to determine if you should stay the course for the rest of the year or make adjustments. When you’re at this mid-year crossroads, there are five crucial areas you should focus on to help you achieve your year-end goals.
In business, nothing happens without revenue. A shortfall of revenue typically leads to a shortfall in gross margin and a shortfall in profitability, which can hinder your attempts to reach end-of-year business goals. It’s also important to remember that not all sales are created equal—meaning, not all sales are going to bring your business the revenue that you want. Some bring poor revenue to your business, including sales that are compromised of:
- Companies outside of your target customer profile (TCP)
- Clients who are not on your technology stack
- New offerings that don’t scale or scale but with low revenue
So, how can you make the right sales and increase revenue growth to keep you on track for your full year targets? Consider:
- Prioritizing retaining customers so you don’t have to replace them. The easiest way to retain customers is by ensuring you’re providing high-quality service delivery.
- Cross-selling your current customers on all of your core solution offerings to maximize your share of wallet (SOW)—it’s far easier than getting new clients, and top-performing TSPs typically get the lion’s share of their clients’ SOW
- Increasing prices fairly and regularly. When done right, it will not be a surprise to your client base.
- Getting referrals from your current clients to decision-makers at other companies who meet your TCP—often, the best-in-class TSPs solicit referrals during the QBR process and have marketing manage the referral process as an additional lead source
- Growing faster by seeking and appealing to customers who are growing themselves
2. Product gross margin
There are two ways to look at product gross margin: in dollars and as a percentage.
Product gross margin dollars are a major factor in what is used to pay a company’s operating expenses. The aim is to generate as much product gross margin dollars as possible, and there are two ways you can go about increasing how much you generate. Based on the formula for product gross margin in dollars, which is the product revenue multiplied by the product gross margin percentage, to increase the dollar amount, you must either 1. increase revenue or 2. increase product gross margin percentage.
While a best-in-class product gross margin percentage is considered greater than 28%, you don’t need to worry if your product gross margin is less than that. You can increase it, and your product gross margin dollars by association, when you:
- Charge more
- Hold account managers accountable for handling QBRs, which helps provide clients with expectations on what kind of infrastructure investments will be needed and what they’ll need to budget for—decreasing the amount of objections to your product price points
- Make vendor selections based on service for higher service profitability and, once selected, buy from that vendor to maximize vendor pricing
- Bundle products or provide limited amounts of information on quotes to limit the amount of price checking by clients
- Set product gross margin floor for sales reps to receive commissions, which will encourage them to price accordingly to ensure they’ll be paid for their efforts
- Don’t sell any product loss leaders and continue to lead with service
- Stick to the technology stack and pricing you support—the more exceptions you start making, the more it becomes the normal way of business
3. Services gross margin
Services gross margin is very similar to product gross margin. Just like product gross margin, there are two ways to look at services gross margin: in dollars and as a percentage.
Services gross margin dollars are another major factor in what is used to pay the company’s operating expenses, and much like product gross margin dollars, the aim is to generate as much as possible. The formula for calculating services gross margin dollars is the same as product gross margin dollars, except it’s service revenue, rather than product revenue, that is multiplied by the gross margin percentage. And much like the product gross margin, the only way to increase services gross margin dollars is by 1. increasing revenue or 2. increasing services gross margin percentage.
A best-in-class services gross margin percentage is considered to be greater than 50%, but like product gross margins, there’s no reason to worry if your business isn’t quite there yet. You can improve your services gross margin percentage by:
- Charging more and no longer discounting. Sell on value, not market pricing. Selling on value that you can provide to your clients lets you achieve premium prices vs market pricing, which is always a race to the bottom for commodity items.
- Instituting technology standards across your client base. This reduces the need for highly complex exception handling and the need for specialized technical skills from more experienced and higher compensated engineers.
- Identifying one target customer profile and only servicing those clients. IT infrastructure services operations do not work efficiently when they try to serve too wide a range of customer sizes. The people, processes, and tools suited to serving SMB customers, for example, are not capable enough to service mid-market customers. Likewise, a mid-market-capable service operation will find its people, processes and tools are too complex, “unfriendly”, and costly to serve SMB customers.
- Documenting your process and procedures. Use one set of technology standards to one target customer profile for scalability.
4. Selling, general, and administrative expenses
Selling, general, and administrative (SG&A) expenses are what stand between your gross margin dollars and bottom-line profit.
Looking at raw SG&A dollars is a bit like looking at cost of goods sold (COGS): It’s important to know, but you need additional information to put it in perspective. For SG&A, that additional information is the percentage of gross margin dollars being consumed. Once you’re at 100%, you’re at breakeven. Best-in-class TSPs typically spend $0.56 out of every $1.00 in gross margin dollars to cover SG&A expenses. If you’re spending more than $0.56 on the dollar, you can improve your SG&A expenses as a percentage of gross margin by:
- Growing a bigger pool of gross margin dollars where your fixed SG&A expenses should grow more slowly than gross margin dollars
- Handling sales function with high Operational Maturity Level™ management where all employees and campaigns are measured on return on investment (ROI) by a desired time frame
- Conducting a zero-based budget review of all SG&A expenses where all expenses must be justified for a new budget year as opposed to starting with the previous budget and adjusting it as needed
5. Current ratio
To figure out your current ratio, divide your current assets by your current liabilities. Your current ratio is a balance sheet metric—meaning, it reflects the ability of your company to pay your short-term obligations. Conventional financial wisdom argues that a ratio of 2.0 is a safe harbor, though over the past year, Service Leadership has recommended a ratio of 3.0 to manage the risk of revenue drops and to help ease recessionary fears. You can improve your ratio by:
- Making more money by improving financial performance
- Keeping the cash in your business and do not distribute cash to owners if appropriate
- Delaying any capital purchases that would require cash payments
- Invoicing in a timely manner for all products and services in order to increase your cash and receivable position
- Paying down your current liabilities—for example:
- If you have $100,000 in current assets and $50,000 in current liabilities, you have a 2.0 current ratio
- If you pay down $10,000 in current liabilities, taking you to $90,000 in current assets and $40,000 in current liabilities, 2.25 would be your new current ratio
Course-correct your financial performance with mid-year reviews
Mid-year reviews are a hugely helpful tool not only for reflecting on Q1 and Q2 but also for planning the second half of your year. Should you hit this mid-point and find yourself with areas you’d like to improve, there are a few simple but important things to be mindful of that can make course-correcting even easier:
Understanding the levers to pull
- Compensation that you’re paying your employees and whether you’re over or under the market rate
- How the timing of your hiring effects profitability
- The level of sales and marketing investments and desired returns
- General and administrative management
- Timely reporting and reviewing of your budget
Knowing the questions to ask to keep you on your feel year target
- How many contracts do I need to sell?
- What does my attrition need to be?
- Do I need to hold off on hiring for service?
- Do I need to be more aggressive in my price increase management strategy?
- Should I re-evaluate all my sales and marketing strategies?
Making immediate changes
- Make sure you have accurate and timely financial reporting, as this will provide you with the ability to make changes faster
- Get in the habit of budgeting and if you haven’t reached that point, at least compare financials against prior year results
- Understand the top five metrics in the QBRs—covered in this blog—that will help you course correct
- Understand the levers of probability, service, sales, and general and administrative management
If you find yourself looking at this list and feeling overwhelmed, know that you’re not alone. Mid-year reviews offer ample opportunities to grow your business, but it’s not easy to take advantage of these metrics and potential business benefits in addition to running your day-to-day operation. That’s why it’s crucial to work with the right business partner—so the weight of the world isn’t just on your shoulders.
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