In this post, I will cover what is ROI, how to calculate this, its connection with margins, and managing overall cash in your business. I will tell you how important ROI is and the biggest mistake entrepreneurs make here.
You will understand how to increase your margins in different ways and having maximum cash flow in your business. So, let’s start with the first point.
What is ROI?
ROI (Return on Investment) is the amount invested by your business on that you are getting certain returns.
So the mistake here is, most retailers or businessmen calculate their profit margins on the value of the goods. Just calculating your profits is not just enough. You also have to calculate the amount invested by your business. If the returns on investment are higher than 12% then the ROI is good. So, here even if your margins are low you can get high ROI by keeping your investments lesser. Below is the formula for calculating your ROI.
Calculation of Return on Investment:
ROI= Yearly Profit/Investment value or Equity
For e.g ROI= 200/100 = 50% ROI
So, always evaluate your business based on the amount invested and check that the ROI should not be less than 10%, otherwise you need to make improvements in your business.
What are the Steps to Increase the ROI?
1) Identify which products in your business give high & low margins. Also, see how many times the product gets rotate. Higher the rotation higher will be the profit even its margins are low. And the products with high margins but less rotation and costs your time and investment, remove such products.
Keeping only the ones that get profits with more rotation can increase profitability which in turn increases your ROI.
2) Keep your inventory limited, in required quantities. As keeping more inventory in your business will lead to the higher interest which decreases your margins. So, pay attention to your inventory.
3) Take advance money from people and deliver services later. So, that you can invest the received amount in marketing & expansion that leads to more rotation of your products instead of keeping your money idle.
How to manage your cash flow in business?
Many entrepreneurs struggle with having enough working capital in their hands. And there are some steps that are mentioned below that can help you to have enough working capital so that you can use that cash for further expansion.
1) If you are in the trading business then sell your products directly to the consumer. They will pay you in immediate cash. So, your capital will not get stuck and you will have enough cash.
2) For credit sales, check the character, the capacity of the person to whom you are selling. Check his reputation in the market through his PnL, B/S, and see whether he has the capacity to pay you. If necessary take something collateral from him like land, or a car.
3) Have a good relationship with your supplier. If you pay your dues on time and fulfilled your promise then your reputation in the market grows. Make a proper billing system to pay your supplier timely.
4) After having enough cash in your business. You can invest that in purchasing more inventory having more demand. You can also invest in mutual funds or FDs for safer options.
Having huge debt on your business can result in insufficient cash flow and you can face huge losses. Also, if your margins are low and the interest rates are high you can face the problem of cash flow. To manage your debt properly and keeping enough cash flow in your business, follow these 4 steps:
1. Expansion with low gross margins- Many businesses try to expand in spite of having low margins and they don’t have the capacity to pay huge interest rates. So, make sure that you have sufficient gross margins for the long term to keep enough cash flow.
2. Restructure your Debt- If you find it difficult to repay your debt, you can restructure it by extending the duration that will increase your current cash flow.
3. Save Cost- Clear your debts by saving the cost of different business expenses like marketing, transportation, or sales. Save these costs and try to get a higher credit period that will help you to manage your cash flow effectively.
4. Relationship with your supplier- Build a strong relationship with your supplier. Give him good rates, visibility and some extra benefits from your side. In return, take extra credit period that will reduce your burden and profit margins increases.