As a passionate and committed business owner, you spend hours delving into the detail of your business’ financial health. Even though it can be stressful, it’s important to be on top of your business’ finances, as your business relies on the decisions made based on information obtained from your financial statements.
Reviewing your financial statements can prove to be a powerful management tool that brings about positive changes within your business. You can use it as a diagnostic tool to evaluate your business’ strengths and weaknesses, and plan forward based on what works best and has the greatest impact towards your business’ bottom-line.
There are three main components of financial statements that you should know: Balance Sheet, Income Statement, Cash Flow Statement. Let’s take a look at the three in more detail.
The balance sheet is basically a summary of your business’ financial balances, such as assets, liabilities and equity at a given time (for example, at the end of a quarter ort fiscal year). It provides an overview of the strength of your business and its working capital.
For instance, how effortlessly your business can handle changes in revenue while maintaining profitability. It can also identify how your account receivable cycle works or how often equipment is being replaced. Keep in mind that the balance sheet is the most indication of the health of your business, as it indicates how much you own or owe to others.
Also known as Profit and Loss Statement (P&L), the income statement reflects your business’ revenue and expenses at a given time. The purpose of it is to show how your business is performing. It provides a clear view of your monthly revenue and expenses next to each other without any other information.
Cash Flow Statement:
The Cash Flow Statement shows your business’s cash inflow and outflow during a given period of time. It is used to show how much cash your business has on hand, how much revenue is expected, the number of upcoming expenses, and your ability to pay suppliers and employees. The income statement is an important measurement of how your business can generate sufficient cash to operate and maintain a healthy business. Don’t overlook it.
It’s essential to know that all financial statements are based on historical financial data, which means that any business decisions made are based off of trends that may never occur in the future. So if you are a business owner making decisions based on financial statements, be aware that it is only a guide.
In addition to helping you make better business decisions, financial statements are essential to:
- Investors: They use financial statements to perform financial analysis. They then make their decision to invest or not in your business.
- Lenders: They look at the financial health of your business and use the financial statement to confirm if it has the ability to pay off its debt.
- Creditors: Vendors use financial statements to assess the creditworthiness of your business.
Overall, if you want to start your business on the right track, it’s crucial to have the correct financial statements and a realistic vision for keeping these records in order. It is a common mistake for new business owners to not take this aspect of their business seriously.