Time, control, and money: the three things most entrepreneurs go into business to get. However, only a few are able to achieve the entire trifecta. What stands in the way? More often than not, it’s fluctuating profitability.
Some business owners ask how they can work less, when there aren’t enough staff to do the work on hand. Usually, it’s because there is a lack of profit that stops then from hiring more (or better) staff. Others assume their problems are caused by poor cashflow, when in reality a profit deficit is to blame.
Ultimately, the key to increasing profitability lies in visualising the numbers deep in your business — which means looking at more than just a Profit & Loss Report.
This is where Tracking in Xero can help.
In this article, we cover how Xero’s Tracking functionality can help solve your problems, how to structure it for your business, and how to best use its insights into your business.
Assembling flatpack furniture is similar to reading a Profit & Loss Report
Here’s something you probably could have guessed about me: I’m okay with numbers (one would hope). Unfortunately, I’m not so good with screwdrivers — nor instructions on flatpack furniture. Just thinking about IKEA sends shivers down my spine.
The good thing about assembling flatpack furniture is as long as you can follow instructions and figure out how to assemble the parts, it’s doable.
Now, imagine a flatpack from hell…
You can’t figure out which parts are important, and what’s just packaging. You don’t know why you have screws left over when you’re done the assembly. Then, it slants drastically to the right. It’s taken three hours to put together, instead of the half hour you expected.
We can think of Profit & Loss Reports in the same way. Just like flatpack’s box shows a pretty picture of the end result, a P&L shows the (hopefully) pretty result at the end of the year. Accountants are really good at producing a one-dimensional P&L that shows just the end picture.
Translating the P&L into an action plan to increase your business’ profitability is no different that the flatpack from hell. It’s close to impossible to see where you’re missing out on profits, where you’re making the most money, or the changes that you need to make.
This is where Xero’s tracking codes can help all businesses.
The questions that Xero Tracking can answer
Picture this: you’re a plumber doing residential renovations and new buildings. How do you know if you make more money from renovations compared to new builds? Your Profit & Loss won’t tell you.
If you’re a retailer with a physical and online store, how can you know if you make more money online, or in-store?
Does a software-as-a-service business make more money selling direct to customers, or through a licencing arrangement?
Do lawyers make more money through litigation or conveyancing work?
How do businesses with multiple locations see which location is most profitable?
The key to increasing your business’ profitability lies in understanding the numbers deep in your business. This means looking at more than just the Profit & Loss Report.
Your P&L is not going to give you these insights. Xero Tracking will.
Identify the distinct areas in your business. Some of them won’t be so obvious. Then ask yourself if you have solid data on each of these areas. Think about sales versus service, different locations, product lines, or on-site versus off-site work. The more areas you can identify, the better.
For an example — let’s say you’re an accountant. Nice.
In order to understand the numbers deep in your business, you’ll need to track the profit from different services you offer, like preparing tax returns and preparing forecasts. You also have two offices, so you’ll need to track those too.
To best set up your Tracking, visit the Settings section in Xero (or log in to Xero then click here). You’ll then set up two new tracking categories.
The first category is “Services.” Under it, you’ll list all the services you provide (Tax Returns, Forecasts, Planning etc). The second is “Location,” and here you’ll list the different offices.
Once you set up these Tracking codes, every transaction, sale, purchase and payrun can be allocated to a Service or Location. It’s simply a matter of using new drop down menus:
For more on Tracking set up, checkout the Xero Central article here.
Success from Tracking
We often see businesses leaving money on the table because they don’t know the specific areas where they’re winning, and where they’re losing.
Xero Tracking helps you see the profit margin in each area you’re tracking. You can also track costs to help drive down overheads, or see where the sales in your business are really coming from.
Back to the accounting example — you’d see which Location is making the most money. You’d also see the overhead (rent, power, etc) of each, as well as which Location individual sales are coming from. This knowledge could help you make more informed decisions when opening additional locations, pulling back from an area, or when placing new staff.
With the Services tracking, you could see the cost of staff time spent on specific jobs, or the return from advertising certain services versus others.
Ultimately, you’ll have better data so you can make more informed decisions about your business’ growth. The alternative? Relying on gut feel, or simply not seeing the opportunity for improvement.
Remember the homework we gave you? (If you’re skimming and need a refresher: identify the different areas of your business.) Once you’ve done that, set up Tracking and start diving into the reports as you code your transactions.
Then, hunt through the reports (Cashflow and Profit & Loss) to see where you’re leaving money on the table.
If you get stuck along the way, or you’d like some insights on your business, please feel free to get in touch. As Chartered Accountants, we’re constantly working through these issues with our clients to help them grow their businesses.
BONUS TIP: Decluttering
You can also use Xero Tracking to declutter your Chart of Accounts. If you’re overwhelmed by the number of accounts you’ve got in Xero, then tracking is a great way to reduce them.