There’s More to it Than Profit & Loss
As a small business owner you are a risk-taking entrepreneur who likely has an instinctive feel for how your business is performing. You are well aware of how much (or little) income is being generated and you have a good grasp of how expenses are shaping up. This gives you a rough idea about profitability. So why is there never enough cash? Why do those crazy accountants say you owe so much tax? Why isn’t the banker as excited as you?
Generally, entrepreneurs understand the basics of Profit and Loss. Income and expenses are the lifeblood of your existence. The elements of a Balance Sheet can be a bit more elusive. At its simplest, the balance sheet shows what the business owns, what it owes and what’s leftover for you.
First Up: What is Owned or, in Accounting Speak, Assets
For starters there’s the cash. Where does it all go? Keep reading. Next, there may be other assets such as prepaid expenses, deposits, perhaps accounts receivable (depending on how your reporting is structured). Then there are the fixed assets - the stuff you’ve invested in. So, if you’re making money but can’t figure out where the cash went, think about big ticket purchases you may have made - equipment, computers, furniture, fixtures, or facility improvements. These will serve you for some years to come and so are expensed over time. That’s the accumulated depreciation also shown with the fixed assets. Certain other intangible assets are also expensed over time in the form of accumulated amortization. The grand total of all assets will equal the grand total of the next two sections.
Up Next: What is Owed, or Liabilities
Accounts payable (depending on your reporting structure) and lines of credit, loans or any other obligations. Again, if cash seems tight, it could be because your debit is being reduced. Conversely, if you say you’re “making money” but the debt isn’t being reduced, your banker may not be smiling.
The Final Section: Equity
It also shows what you’ve contributed, what you’ve pulled from the business, how much you’ve currently made (or lost), and how much equity you still have. Depending on your entity type, this may be your only or primary source of personal income. Hence, before tax day, it’s important to know how much has flowed from the business into your pocket.
A profit and loss statement, including adjustments for depreciation and amortization neatly states what you probably suspected, and might remind you of some of those pesky expenses that add up. Seeing it in one place can shed light on areas where you might be able to trim to improve the bottom line.
Finally, the cash flow pulls it all together. It shows where the income was used to invest, alter debts, fund your personal wallet, or collect in the coffers.
So, while you may have a gut grasp of the daily goings-on, a financial statement supplies key components that complete the picture of the health of your business. It assembles all the essentials and provides a tool to make informed management decisions and fine tune the workings of your company. Acquiring this tool with some regularity (monthly, quarterly, annually) will enable you to track and, ideally, improve the well being of your business.
This post was assembled by the Paraprofessionals of the Small Business Department: financial statement compilers who enjoy taking your day-to-day activity and turning it into a business snap shot that is understandable and useful.