4/9/2018 12:59:00 PM by Number Ninjas Bookkeeping
If you’re anything like me, you may prefer to be efficient with your time and money. To me this means avoiding redundancy. If something can be accomplished in one swipe, why make two or three?
Efficiency isn’t always about doing less though. If a few extra steps are taken in the beginning to build a strong foundation it can save a lot of effort and money in the long run. Especially when it comes to your finances. To be efficient it does require doing what makes the actual difference. So what difference does it make to have more than one type of Financial Statement?
Let’s take a look at what the main statements are that you should be using. You may find that you will not want to do without one of these statements ever again.
The Balance Sheet offers a quick view of a business’s financial standing. This is why it is also called called a statement of financial position. This snapshot can help business owners and accountants make financial decisions that lead to positive instead of negative change in the company.
You can use the balance sheet to track spending and earnings. A balance sheet shows what your company owns and what it owes as of a specific date. As your car’s dashboard show a few important gauges, the balance sheet show Assets, Liabilities and Equity to help you gauge the health of your company.
The balance sheet should list all current assets. These are assets you have acquired which will be used up or sold within 1 year. It should also list all fixed assets, such as building & equipment that is expected to be around for awhile.
In the same way Liabilities should also list all current liabilities, which are expected to be paid within the next 12 months. As well, it should list all non-current liabilities (usually with the word “payable” next to it) such as bank loans that will take more than 1 tear to pay.
When you subtract Liabilities from Assets what is left over is Equity. This is commonly referred to as the Accounting Equation. An easy way to explain this is the example of a homeowner. If you own a home worth $100,000 and you still owe $60,000 your equity is $40,000. This is not the full value of the home, but if you sold it for what it is worth you would walk away with $40,000 cash.
In the same way, with a business, Equity shows how financially healthy things are. If there is sizable equity after all expenses are paid the business is profitable and therefore healthy.
Why is the balance sheet important?
Just as a healthy human who may still live a long time can become temporarily sick, a business that is healthy can still function less than optimally. Some people may feel healthy yet have an underlying disease that can be fatal if neglected. The same is true for a business. The balance sheet is the simplest snapshot to let you know if there is something that needs to be changed before it is late.
The Income Statement, which is sometimes referred to as “Profit & Loss”, shows the profitability of the company in one place. Instead of a small instrument panel on a car’s dashboard I would liken the Income Statement to the nurse checking your vitals when going to see a doctor. As opposed to seeing a one moment snapshot of where everything is at, you can see how healthy everything is and make vital adjustments when necessary.
Whereas the Balance Sheet shows a picture of the whole as of 1 particular day, the Income Statement shows picture as of a time interval. Instead of the one day snapshot it can be 1 month, 1 quarter, Year-to-date or whatever you choose. For Example: “During the 3 month time period ending March 31, 2018”.
If there were changes made in management, tools, programs, or something else during a given time the Income Statement can give you a great comparison of their effectiveness and profitability. The details will include, revenues, expenses, gains and losses. Basically everything that factors into the bottom line. If the Black/Green (revenues and gains) is larger than the Red (expenses and losses) the bottom line is referred to as “Net Income”, if it is the other way around it will be called “Net Loss”.
Statement of Cashflows
The Statement of Cashflows is more than a snapshot of your business finances. It can take a little more time to develop and read when finished, therefore it can be the least used financial statement by Small Business Owners. I believe this can be a Vital mistake. Due to the ability to show the influx of cash and immense details, the statement of cash flows can be overwhelming. At the same time these details can be life saving.
From day to day these details may not be necessary, just as we don’t need an MRI everyday. Not everyone needs continual measurements of their heart rate either. Yet when an Astronaut is being prepared for space travel everything must be accounted for. Small business is not space travel but the importance of your business health may be just as vital to you as the Astronauts unknown heart condition may be to him.
The Statement of Cash Flows should be used every time there is an important decision to be made. When debating whether to purchase a new vehicle, get rid of a route that is far away, develop a new niche for specific clientele or many other things a Statement of Cash Flows can offer some wonderful details full of insight.
The Statement of Cash Flows can also be an extremely useful tool to help you determine if there is enough cash to cover upcoming expenses such as taxes or payroll.
The 3 Key Areas of insightful details are Operating Activities, Investing Activities and Financing Activities.
Operating Activities are usually listed on the Income Statement under A/P, A/R, Inventory, Payable Wages, and Payable Income Tax. Both statements should be reviewed but taken into account that there may be some differences since certain methods will build the Income Statement using Accrual Accounting while the Cash Flows will be on Cash Basis. There will be another article on this coming soon.
When you purchase property or equipment that is expected to be used for quite some time, usually 1 year or longer, these would be considered investments. Long-term assets listed here can also include furniture, land and vehicles.
Activities listed here will include Notes Payable, any other long-term liabilities such as Stock Holders Equity even if you are Sole Proprietor as this would include Retained Earnings.
Reviewing this information should enlighten even the busiest of Entrepreneurs to the fact that these statements are vital to long-term success. Is your current bookkeeper providing you with these statements? Are they explaining the information to you in plain English? When you have questions regarding Financial Decision you make, is your bookkeeper available?
If these questions raise concern for you about your current bookkeeping solution, it is urgent and imperative that you review further options regarding bookkeeping solutions.