There are three basic financial statements: the balance sheet, income statement, and statement of cash flows. These statements can provide a wealth of information to help business owners track what they own, the bills they owe, and incoming and outgoing cash flow. These financial statements also provide insight when business owners are weighing financing options, managing day-to-day payroll and inventory, and looking for answers when their customers or orders are not meeting expectations.
Let’s start with the balance sheet (which is also known as a statement of financial position). This statement provides a snapshot of your firm’s assets and liabilities at a point in time (usually at month end). Take several of these snapshots over several months or years, and you just might find that your financial position is improving, especially if you have assets that have appreciated or business debts you’re paying off. Such an analysis can also spotlight operational problems, such as increasing receivables due to lax collection policies that need attention. This is where a good accountant will start applying ratio analysis to compare past periods and also compare your business against other companies within the same industry.
The income statement (also known as a profit and loss statement) uses the same basic accounting data, but serves a different purpose. It tells the story of your business over a period of time, such as a calendar year. The income statement highlights revenues and expenses from routine business activities and extraordinary events, such as windfalls or casualty losses. Again, comparing these statements from month to month and year to year can pinpoint areas for improvement. For example, are your fixed costs growing over time? You may need to re-examine your location, utility contracts, or financing practices. Are your revenues stagnant? How is your cost of goods sold percentage? How do you compare to other companies in your industry. Maybe it’s time to rethink your business model or venture into new markets.
The cash flow statement can be a real eye opener as well. Certain transactions and events may not affect your income statement right now, but may result in a cash crunch if not addressed. Cash flow analysis can shine a spotlight on how much you’re shelling out for financing, payroll, and payments to contractors and suppliers. Proceeds from asset sales, loans, and notes also stand front and center on the cash flow statement. In addition, a well-constructed statement of cash flows can serve as the basis for realistic cash flow projections which is a must if you are thinking of procuring financing.
If you’d like help developing and analyzing your firm’s financial statements, give us a call. If you are not using these documents to their fullest capacity (or at all) then it is time to start. Do not let the New Year start without a commitment to review these documents at least on a monthly basis.
