If you are starting a small business, the best thing you can do is learn how to read financial statements. You may hire an accountant to prepare your company’s financial statements, as well as handle taxes and other financial tasks. As a business owner, you should be able to provide the accountant with the information they need to develop your company’s financial statements. You can only do this if you know how to read them.
You should also be able to read your financial statements so you can continuously track what is happening financially in your company.
It’s likely that you will use some spreadsheet software to track your income and expenses. This allows you to provide your accountant with a comprehensive source of income and expenses. Your spreadsheet software may generate the financial statements for you. Check your software package and see if it does.
Learn the Basics
Many small business owners hire a financial professional to prepare financial statements. Understand the financial statements that the financial professional produces for your company. These financial statements will help you assess your company’s financial position at a specific point in time, as well as over a period of time, and your cash position at any given moment.
Note: Many small business owners fail because they do not track their cash flow and the financial position of the company. If you understand the financial statements, you can avoid this in your business.
The outputs you receive from the accountant or another financial professional can help you run your business more efficiently and make better decisions. For example, if the accountant tells you that you made a profit of $1,000 over the year, understanding what was done to achieve that profit and how you can increase profits in the future is helpful. You may not need to know as much as the accountant, but it makes sense to understand the big picture.
Income Statement
The income statement, also known as the profit and loss statement, is the primary statement for measuring your company’s profitability over a time period. You will prepare the income statement step-by-step starting with the amount of revenue your company has earned. From sales revenue, you will subtract all expenses in a format similar to the template below. As your company grows and becomes more complex, your income statement will become more complex.
Income Statement (For the year ended ____________)
Revenue
- Sales $
- Total Sales Revenue $
Expenses
- Utilities $
- Rent Payments $
- Salaries $
- Office Expenses $
- Total Expenses $
Earnings Before Interest and Taxes $
Interest Expenses $
Earnings Before Taxes $
Taxes Paid $
Net Income $
Retained Earnings Statement
The retained earnings statement, also known as the statement of shareholders’ equity, is usually prepared if your company is publicly traded and pays dividends to shareholders. It is the second financial statement you prepare in the accounting cycle. Retained earnings are the portion of net income that is reinvested in the company and used for growth. The remaining portion of net income is paid out as dividends to shareholders. The retained earnings figure is carried over to the financial statement.
Retained Earnings Statement (For the year)
- Balance at the beginning of the year $
- Net Income $
- Cash Dividends Paid $
- Issuance of Common Stock
- Current Balance $
Balance Sheet
The balance sheet shows what you own in assets and what you owe in liabilities. It also includes equity, which comes from the retained earnings statement in the previous section. Your assets should equal your liabilities plus your equity.
The balance sheet presents your company’s financial position in terms of assets and liabilities/equity at a specific point in time, like a snapshot.
Balance Sheet (For the year ended December 31, ______)
Assets
- Cash $
- Marketable Securities
- Accounts Receivable
- Accounts Receivable $
- Inventory
- Prepaid Expenses
- Fixed Assets
- Vehicles
- Retained Earnings
- Total Assets $
Liabilities
- Accounts Payable $
- Notes Payable
- Taxes Payable
- Prepaid Expenses
- Liabilities
- Short-term liabilities $
- Long-term liabilities
- Mortgages payable
- Retained earnings
- Total liabilities and equity $
Total assets $
Cash Flow Statement
There is a critical reality to understand about small businesses. They simply cannot survive without cash. The cash flow statement becomes one of the most important financial documents for small businesses at the end of the year. The cash flow statement contains three sections: operating activities, investing activities, and financing activities. The cash flow statement allows the owner to see exactly where their money is being spent and received. Here is a template you can use at least as a starting point.
Cash Flow Statement for the year _________
Operating Activities
- Adjustments:
- Change in accounts receivable $
- Change in inventory
- Change in accounts payable
- Net cash provided by operating activities $
Investing Activities
- Sale of short-term investments $
- Cash used to acquire fixed assets
- Net cash provided by investing activities $
Financing Activities
- Change in notes payable
- Net cash provided by financing activities $
Net change in cash $
Cash at the beginning of the year $
Cash at the end of the year $
Conclusion
These four financial statements are prepared at the end of each accounting cycle, whether monthly, quarterly, or annually, and should be prepared in this order. The income statement information comes from revenue and expense accounts in the general ledger. The retained earnings statement information comes from the income statement and the dividends account. The balance sheet information comes from asset, liabilities, and equity accounts in the general ledger plus the retained earnings statement. Finally, the cash flow statement is prepared using information from all the previous financial statements.
Source: https://www.thebalancemoney.com/financial-statement-analysis-for-your-small-business-firm-393582
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