As a small business owner, you might receive your business’s financial statements on a periodic basis – monthly, quarterly or yearly from your Bookkeeper or Accountant. Often those financial statements include an income statement (aka profit and loss statement), a balance sheet and possibly a statement of cash flows.
The income statement for your small business is easiest to read. There’s a bottom line (did you make or lose money) and you can quickly see your total sales and total expenses. The cash flow statement also provides you with an easy to read snapshot of the change in your business’s cash position over the reporting period. There are many other things you can glean from those 2 types of financial statements with a deeper review, but at a quick glance, they are easier to understand and provide key information about how your business is performing.
The balance sheet, on the other hand, isn’t as easy to digest at a quick glance, and many small business owners don’t even look at their balance sheet or know how to read it, if they did.
Free Balance Sheet Review
The 5 Things You Should Know
How do your balances compare to a prior period?
First, make sure you are getting a balance sheet which shows you your balances as of the most recent period along-side the prior period’s balances (last year, quarter or month, for example). Seeing how some of your key account balances have changed from a past period, can give you a picture of how you are managing your assets and debt, or if the equity in your business is growing or shrinking.
Are you acting as a bank for your customers?
If you extend credit to your customers (you provide them with your goods or services and they pay you at a later date), this is reflected on your balance sheet in your Accounts Receivable balance. If this number is growing disproportionate to the change in your sales over the same period, you may have an issue brewing with collections and could be facing a possible cash crunch.
Is the equity value of your business growing?
The difference between your assets (things you own or are owed to you) and your liabilities (things you owe to others) is the value of your equity. When that number goes up your business is creating value. (Don’t confuse the value of the Equity with what your business is worth, that’s a topic for another day.) Now look more closely at what Equity is made up of; it’s Retained Earnings (money you made in prior periods) – Shareholder Draws or Distributions (money you took out) + Net Income (money you made in this period).
If your Shareholder Distributions are high (especially if they are higher than retained earnings) then your company is creating value — but you are taking out more value than it’s creating! This is not sustainable in the long-term — either you need to reduce your distributions, or you need to increase your earnings.
Is your inventory balance increasing or decreasing?
Just like Accounts Receivable, if your business carries inventory, your precious cash can be stranded in your inventory that is not moving on pace with your sales. If the inventory value as a percentage of your sales is greater in the current period as compared to the percentage in the prior period, you might need to tighten up on buying new product until you sell more of what you already have.
How much debt is your business carrying?
Debt is a double edge sword. It can provide you crucial capital when your business is starting up or when you need to expand. Managed properly, debt can be a good thing. Managed poorly, debt can limit your ability to grow or in the worst circumstances force your business to close its doors. There are many ways to evaluate your business’s debt and determine if you are in a healthy or unhealthy position. But generally, if your debt is growing disproportionately to your assets or equity, you could be in trouble.
You need to review your business’s balance sheet on a regular basis. Begin by understanding these 5 key pieces of information and take action from that information to help your business grow and thrive.
If you need help reading your own business’s balance sheet or creating one, we at Barba CFO can help. Please view our contact information here or send us an email at email@example.com and we will give you a free review of your balance sheet (Enter “Free Balance Sheet Review” in the subject line). Or, call us (401) 384-0298 for a consultation or an appointment to learn more.
Free Balance Sheet Review