Here is how to know if your business is financially healthy: six numbers, all of them already sitting in your books, each with a threshold you can check in under an hour. Not a feeling about how Friday's bank balance looked. Profitable businesses run out of money every month, and almost none of them are ambushed by a single event. They drift — margin slips two points a quarter, receivables age quietly, the owner skips a draw and then skips another — and nobody is reading the numbers that were flashing the whole time.
This is a sequence, not a menu. Run the steps in order, because each one changes how you read the next. Write down your answer to each check before moving on. At the end you will have six results and a clear verdict.
Step 0: Confirm your books are current enough to trust
Every check below reads from your accounting file. If the file is stale, the checks return confident nonsense.
Open your accounting software and answer two questions. First: what is the last month you actually closed — meaning every bank and credit card account reconciled to the statement, not just categorized? Second: are there uncategorized or suspense transactions sitting in that period?
Done looks like: the most recently completed month is reconciled, the Uncategorized Expense and Ask My Accountant accounts are empty, and your balance sheet cash matches your bank statements. If you're more than two months behind, stop here and fix that first — our guide to catching up on months or years of behind books walks through the order to do it in. Diagnosing a business from unreconciled books is guessing with extra steps.
Step 1: Measure runway in weeks, not in dollars
Runway is how long you can operate if revenue stopped today. It is the first check because it determines how much time you have to fix anything else you find.
Where the numbers live: your balance sheet (cash accounts), your A/P aging (what you owe in the next 30 days), and your P&L or Statement of Cash Flows for average monthly operating outflow.
The math, in order:
- Add up cash in all operating accounts as of today.
- Subtract money that is already spoken for: current payroll accrual, sales tax collected but not remitted, and your tax reserve if it lives in the same account.
- Subtract A/P coming due in the next 30 days.
- Divide what's left by your average monthly operating outflow over the last six months.
That quotient is your runway in months. Multiply by 4.3 if weeks feel more honest — for most owners, they do.
Thresholds: three months or more is a pass. Six weeks to three months is a warning. Under six weeks is act-now territory. For context, the JPMorgan Chase Institute's widely cited research on small business cash buffers found the median small business holds about 27 days of cash. That means a two-month runway already puts you ahead of half the market — and also that half the market is one bad month from a crisis.
What to watch for: owners routinely count a line of credit as runway. It isn't. An undrawn line is a lender's option, and lines get reduced or pulled precisely when your numbers turn. Count it separately, as a backstop, not as cash.
Step 2: Read the gross margin trend, not the gross margin
A single gross margin number tells you almost nothing. The direction it has moved over twelve months tells you nearly everything about whether your pricing still covers your delivery costs.
Where the numbers live: run a Profit and Loss by Month for the last 13 months. Not the annual summary — the monthly columns. A four-point slide spread across a year looks like a rounding difference on a single-column report and is unmistakable on a monthly one.
The math: for each month, gross profit divided by revenue. Then compare your trailing three-month average to the same three months a year ago.
Thresholds: flat or improving, or down less than 2 points, is a pass. Down 2 to 5 points is a warning. Down more than 5 points is act.
What to watch for: before you conclude your margin is collapsing, confirm your chart of accounts hasn't quietly changed. The most common false alarm I see is a cost that used to sit in overhead getting recategorized into cost of goods sold — subcontractor pay, job materials, merchant fees. Margin appears to fall off a cliff in one specific month. If the drop is a single step rather than a slope, it's a coding change, not a business problem. If you're not sure how to separate the two on the report itself, this plain-English walkthrough of a P&L covers what belongs above and below the gross profit line.
Step 3: Age your receivables and find the 60-day column
Revenue you have earned and not collected is not revenue. It is a loan you made to your customer at zero percent, without asking.
Where the numbers live: the A/R Aging Summary. In QuickBooks Online it defaults to 30-day buckets. Ignore the 1–30 column — on net-30 terms that's normal float. The 61–90 and 90+ columns are the ones that predict write-offs.
The math: add the 61–90 and 90+ columns, divide by total A/R. That's your stale percentage. Then calculate days sales outstanding: total A/R divided by revenue for the trailing 90 days, times 90.
Thresholds: under 10 percent stale is a pass. Ten to 25 percent is a warning. Over 25 percent is act — and at that level, assume a portion is uncollectible rather than late.
Done looks like: you have a named reason for every invoice past 60 days. Not "they're slow." A reason: disputed scope, waiting on a lien release, the AP contact left, the PO number was wrong. Invoices don't age by accident; they age because something is unresolved and nobody owns it.
What to watch for: a business can pass Step 2 with excellent margins and still be dying, because margin is an accrual measure and collection is a cash one. That gap is exactly the failure described in why a strong P&L can sit next to an empty bank account.
Step 4: Count how many of the last 12 months you actually paid yourself
This is the check owners skip, and it is the most diagnostic one on the list. Owner compensation is the first expense to get quietly deferred and the last one anyone reports on.
Where the numbers live: owner's draw or distributions on the balance sheet, and officer or shareholder wages on the P&L if you're taxed as an S-corp.
The math: count the months in the last twelve where you took your intended compensation in full. Not partial. Not "I took it in January to make up for December."
Thresholds: twelve of twelve is a pass. Nine to eleven is a warning. Fewer than nine is act — your business is being subsidized by your household, which means the reported profit is overstated by whatever you didn't take.
What to watch for: if you're an S-corp shareholder-employee, skipping payroll isn't only a cash decision. The IRS expects reasonable compensation for services you actually perform, and a year of thin wages paired with healthy distributions is a known exam trigger. What counts as reasonable depends on your role and your industry — talk to your CPA about your specific facts before you change your salary. The mechanics of choosing between salary and distributions are laid out in this decision tree for LLC and S-corp owners.
Step 5: Test whether your debt is serviceable at today's earnings
Lenders have a single number for this and you should use theirs, because theirs is the one that decides whether you can refinance when you need to.
Where the numbers live: trailing twelve-month P&L for earnings; your loan statements and amortization schedules for payments.
The math: take net income, add back interest, taxes, depreciation, and amortization. Divide that by total annual principal plus interest payments on all debt — term loans, equipment notes, SBA loans, and the amortizing portion of anything on your line of credit.
Thresholds: 1.50x or better is a pass. Between 1.15x and 1.50x is a warning. Below 1.15x is act, because most SBA 7(a) lenders underwrite to roughly 1.15x global coverage — under that line you are outside conventional bank appetite before you fill out an application.
What to watch for: merchant cash advances and daily-remittance products often don't appear as debt on the balance sheet at all. They show up as a reduction in deposits. If your bank deposits are being swept daily by a funder, that payment belongs in the denominator even if your accountant booked it as a contra-revenue item.
Step 6: Check reserve depth — and whether the tax money is separated
The last check is about survivability. Two accounts, two purposes, and they must not be the same account.
The tax reserve. Estimate your current-year federal and state liability with your CPA, divide by twelve, and confirm that amount has actually moved out of operating each month. Federal estimated payments for calendar-year filers fall on April 15, June 15, September 15, and January 15 — see the IRS estimated taxes overview for the current schedule. Note the uneven gaps: two months, then three, then four. An owner who saves "a month at a time" without watching that calendar is routinely short in June.
The operating reserve. Cash held for interruption, separate from both operating and tax. One month of operating expenses is the floor.
Thresholds: tax reserve fully funded to date plus one month of operating expenses held separately is a pass. Tax funded but no operating reserve is a warning. Tax reserve commingled with operating cash is act — because that money will be spent, and you will not notice until a due date.
What to watch for: once a single account crosses $250,000, standard FDIC deposit insurance coverage — which applies per depositor, per insured bank, per ownership category — stops covering the full balance. That's a conversation with your banker, not a reason to keep less cash.
Is my business financially healthy? Reading your six results
A small business is financially healthy when it holds at least three months of runway, its gross margin is flat or rising year over year, fewer than 10 percent of receivables are past 60 days, the owner has been paid all twelve months, debt service coverage is above 1.50x, and the tax reserve sits in its own account. Six passes means healthy. One "act" result is your project for this quarter, not an emergency. Two or more "act" results means the business is being run on cash timing rather than on economics, and the fix is sequencing — runway first, then receivables, then margin.
The order matters. Fixing margin takes two to three quarters to show up in cash. Collecting a stale receivable can take two weeks. If your runway is short, you buy time with Step 3 and then spend that time on Step 2.
What "done" looks like, and how often to repeat this
Done is a one-page record with six numbers, six verdicts, and a date. Run it quarterly, within a week of closing the quarter. Same six checks, same thresholds, so you're reading a trend line rather than a snapshot — the third time you run it is when it starts telling you things you didn't already suspect.
Most owners who can't run this sequence aren't missing the discipline. They're missing a closed set of books to run it against, which is why the reporting cadence in this guide to which financial reports to read and when matters more than any single ratio. At Turnkey CFO we build this check into the monthly close for the businesses we keep books for, but there is nothing proprietary about it — the whole thing runs on four standard reports and a calculator.
Frequently asked questions
How much cash should a small business keep on hand?
Three months of operating outflow is the working target, held separately from your tax reserve. Research from the JPMorgan Chase Institute puts the median small business at roughly 27 days of cash buffer, so a two-month position is already above average. Below six weeks, treat cash as the constraint on every other decision you make.
Can a profitable business still be financially unhealthy?
Yes, and it is the most common pattern. Profit is measured when you earn revenue; health is measured by when you collect it. A business with 45 percent gross margin and a quarter of its receivables past 60 days is generating profit on paper and running out of cash in practice.
What debt service coverage ratio do lenders want to see?
Most SBA 7(a) lenders underwrite to at least 1.15x global coverage, and conventional lenders often want more. Below 1.15x, refinancing gets difficult exactly when you need it. Include merchant cash advances and daily-remittance products in the calculation even if they aren't booked as debt.
Does skipping my own paycheck for a few months actually matter?
It matters twice. It overstates your reported profit by whatever you didn't take, so every margin and coverage number above is flattered. If you're an S-corp shareholder-employee, thin wages paired with healthy distributions also raises a reasonable-compensation question — ask your CPA about your specific situation before changing your salary.
How often should I run these six checks?
Quarterly, within a week of closing the quarter, using the same thresholds each time so you're reading a trend rather than a snapshot. Monthly is worth it if any check came back in the act range, because you need to see whether the fix is working before the next quarter closes.