By Satish Patel
Accounting and bookkeeping functions play a large role in deciding the financial viability of a business.
In the case of the small or mid-size company, this holds all the more true. When every little decision and operation is determined based on budget, it makes sense to understand whether all your hard-earned money is allocated correctly.
In a typical small-sized business, the focus is concentrated on fulfilling client requirements and meeting deliverables. Manpower is often limited, with one individual managing multiple responsibilities. Opportunities for error in such situations increases, and therefore so does the significance of understanding your finances and correctly reading reports. Financial reports have a significant bearing on the future of your company. The golden rule for all small businesses remains constant: if you are not adept at financial reporting or uncertain about how to read them, hire professionals for conducting accounting-related work instead of trying to do it yourself.
However, if you do choose to review them yourself, there are several key elements that you should evaluate when reading them.
Your income statement will reflect your profits and losses. This is performed via columns on revenue and expenses. A summary of your revenue compared against the expenses incurred will indicate whether your business is performing well or not. The income statement typically reflects the growth or reduction in a company’s assets over the accounting period which could be a single month, several months, or one year.
The income statement is also a comparative document for evaluating how your company has fared previously. It contains other factors such as net sales, gross income, operating income, operating expense, taxes, etc. When you read income statements for consecutive years side by side, you can calculate the percentage change in your company’s net sales, operating expenses, and operating income. This helps you establish a budget and to decide where you need to reduce expenses and allocate additional funding.
The balance sheet lists the company’s assets, liabilities, and owner’s equity. The owner’s equity is the difference between the assets and the liabilities. The balance sheet is also an indicator of your company’s financial health. When you evaluate a balance sheet, you should be able to assess whether your debt is in control.
Elements of a balance sheet include:
Assets: Assets are what the company owns, which may include movable and immovable properties, such as land or machinery equipment. There are two kinds of assets- current and fixed. Current assets are converted into money within a period of one year, while fixed assets refer to property that generates income and are not expected to be sold within a year.
Liabilities: Balance sheets also list liabilities which are debts owned by the company. These are categorized into current liabilities, those that need to be paid off within one year, and long-term liabilities, those that are not bound by the 1-year limit.
Owner’s Equity: Once there are funds invested into a business, it is viewed as a sum of assets and liabilities. A business must be funded to make it operational before it can start acquiring assets. The owner’s equity is the value that remains in a business after removing the liabilities from the assets.
Statement of Cash Flow
How does your company use its cash? Your cash flow statement will provide you the answer to this question. Cash flow statements assign cash expenses within a specified accounting period to one of three categories-, Operations, Financing, and Investing. These are then added to determine a figure which is further tallied with cash reserves in the beginning of the accounting period. Examples of elements within a statement of cash flow can include cash given to employees (operative expense), cash allocated to purchasing machinery or equipment (investing), and cash provided by owner (financing).
All business owners should have a thorough understanding of what these statements mean in determining the success of their company.