Financial Statements Explained

2020-09-08T10:31:22-07:00

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You are running your business and making sure that you are servicing your customers in the manner that you know they deserve. You treat your employee with value and try to keep them challenged. Your sales are hot and growing but something is wrong. Every time it comes for paying bills there seems to be a shortage of cash. There are many things that can create this situation. Some are problematic and some are unique to running your business. This leads to the question of what reports to look at and what information do they give you?

The standard reporting for a typical financial statement is the Balance Statement, Income Statement, and Statement of Cash Flows. There are other reports, but these are the critical ones to be discussed in this article.

The Balance Sheet is made up of Assets, Liabilities, and Shareholder’s Equity. The Balance Sheet reports where things are as of a specific date such as year end 12/31. Assets are accounts that have a value such as Cash, Accounts Receivable, and Fixed Assets. Liabilities are amounts that you owe such as Accounts Payable and Accrued Expenses. Shareholder’s Equity is the differential which is made of stock, ownership contributions or draws and the earnings of the company. A negative number in this section denotes a business that overall is running a loss. Balance Sheets are looked at extensively by lenders and investors as it gives an overall feel for the health of a company and how they have been doing typically over a longer term then an income statement.

The Income Statement is also known as the P & L which stands for Profit and Loss. This report shows for a period of time how a business has been doing. A typical Income Statement would be reporting activity for the month or year for example. At its simplest it reports revenue and expense activity. This report is used the most extensively by the business themselves as it tells the clear story of whether you were profitable or not. This report can get more complicated as there are certain expenses such as depreciation that are not reflective of actual monthly expenses and are an allocation so there are alternative numbers that are sometimes reported other than Net Profit such as EBITDA which stands for earnings before income tax, depreciation and amortization to remove expenses that are not directly connected to the business operations.

The Statement of Cash Flow shows where did your cash go or come from. There is the obvious gain or loss on the P & L but then there are the changes that are not income statement based but come from, for example, receivables or payables being paid from prior periods. This report is helpful in that it will show you where those changes have occurred. You may have had a terrible month but you had lots of receivables from last month, so your cash ends up being net positive for the month. This report will show that activity and will allow you to pinpoint differences between actual profitability or loss and cash position.

These three reports are the core of what every business should look at on a monthly basis. The earlier you can get these reports the quicker you can make choices that may need to be made as far as allocation of resources, spending more or downsizing. A well-run company will have an accountant who has a consistent approach to month end closing and can get the financials prepared in a set time. On our next post we will discuss analytics and how to best use these reports and others to extract pertinent information to be looked at.

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