By themselves, financial statements don’t capture the full story about a company’s performance. You need a frame of reference for comparative purposes. That’s where benchmarking studies come into play. By analyzing the company’s performance over time — or comparing it to competitors’ results — you get a clearer picture of what’s working, where improvements may be needed and what risks your business faces.
Benchmarking can help you make better-informed decisions about pricing, cost control, cash flow and growth. Here’s how to take your financial statements to the next level and use them to manage your operations more effectively.
3 approaches
You can apply various approaches to benchmark your company’s financial performance. Three formats to consider include:
1. Horizontal analysis. A comparison of two or more years of financial data is known as horizontal analysis. Often, changes are shown as dollar amounts and percentages. For example, if accounts receivable increased from $1 million in 2024 to $1.15 million in 2025, the difference is $150,000 (15%). Horizontal analysis helps identify trends over time, allowing you to spot potential opportunities and risks early.
The next step is to evaluate the causes of those trends and determine whether the trend is positive or negative. Continuing with the previous example, if accounts receivable increase by 15%, but revenue is up only 3% year-over-year, it might indicate operational issues, such as slow collections or bad debts, that warrant further investigation.
2. Vertical analysis. Vertical (or common-size) reports present line items as percentages of revenue or total assets. For example, a common-size income statement shows each line item as a percentage of revenue. This can help you assess how each dollar of revenue is distributed between expenses and profits.
3. Ratio analysis. Ratios depict relationships between various items on a company’s financial statements. For example, profit margin equals net income divided by revenue. Ratios are often used to benchmark a company against competitors (which may be larger or smaller) or industry averages. What’s good or bad for a particular ratio depends on the industry or niche in which your company operates.
Eyes on profits
The first place many business owners look when evaluating financial performance is the bottom line of the income statement: profits. However, profitability ratios, such as profit margin and gross margin, are often more meaningful for private companies. Gross margin equals gross profit (revenue minus cost of goods sold) divided by revenue. This metric gauges operating profits before accounting for selling, general and administrative expenses. Gross margins can also be calculated on a product or customer basis. This level of detail can reveal which offerings are driving profits.
To get clearer insight into profitability, it can also be helpful to assess key line items on the income statement, such as:
- Material costs,
- Direct labor,
- Returns,
- Shipping,
- Utilities,
- Rent,
- Owners’ compensation,
- Travel and entertainment, and
- Interest.
Comparisons usually require adjustments for nonrecurring items, discretionary spending and related-party transactions. When comparing companies with different tax structures, leverage or depreciation methods, it may be helpful to turn to earnings before interest, taxes, depreciation and amortization (EBITDA).
Other indicators
A comprehensive benchmarking study evaluates a company’s performance from many angles, not just profits. This is essential to assess risk and operational strengths and weaknesses. Additional metrics to consider include:
Size. This is conventionally measured in terms of market share, annual revenue or total assets. Smaller companies may face different risks than larger competitors, such as limited access to capital or fewer internal controls. But bigger isn’t always better. Sometimes niche players earn higher profit margins because they specialize in one market segment.
Growth. Typically, growth is measured by the dollar and percentage change in revenue, profits or market share from year to year. Steady upward growth is ideal. But rapid growth can be just as perilous as a rapid decline. Companies that grow too fast have a voracious appetite for cash — and it’s all too common for high-growth operations to take on more debt than their cash flow streams can support.
Liquidity. Liquid companies have sufficient current assets to meet their current obligations. Cash is obviously the most liquid asset, followed by marketable securities, receivables and inventory. Working capital — the difference between current assets and current liabilities — is one way to measure liquidity. Others include working capital as a percentage of total assets and the current ratio (current assets divided by current liabilities). A more rigorous benchmark is the acid (or quick) test, which excludes inventory and prepaid assets from the equation. Liquidity metrics are critical for managing short-term cash needs and avoiding funding gaps.
Operating efficiency. Turnover ratios show how efficiently companies manage their assets. Total asset turnover (revenue divided by total assets) estimates how many dollars in revenue a company generates for every dollar invested in assets. Turnover ratios can also be computed for various working capital accounts. Receivables, inventory and payables turnover ratios are often calculated in terms of days. For example, the average collection period equals average receivables divided by annual revenue, multiplied by 365 days. A collection period of 45 days indicates that the company takes an average of one and one-half months to collect payments from customers.
Leverage. A company’s ratio of debt and equity also sheds light on risk. Debt allows businesses to earn a return using other people’s money. But debt load can become problematic if a business is paying an exorbitant interest rate and can’t repay its obligations. As interest rates rise, companies with variable-rate loans will incur higher interest expense than they did in previous periods.
Another important metric is the interest coverage ratio — earnings before interest and taxes (EBIT) divided by interest expense. This ratio shows how many times EBIT will cover interest expense.
Analytical power tool
To succeed in today’s competitive business environment, managers need to consider every tool available to maintain their companies’ market positions. A benchmarking study can be a powerful analytical tool, providing deeper insights than you’d get from just flipping through your financial statements. Applying a study’s findings can help you make smarter business decisions. Your accountant can help you identify the most relevant format and metrics to monitor, calculate ratios, and provide sources of comparative data, such as industry trade associations and benchmarking publications. Contact your CPA to get started.
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