Successful business owners understand money, and how the moving parts of money affect their business.
They do this – not by staring at their online bank balances – but by regularly preparing a series of reports that help them understand the financial health of their company. Those reports can also be “canaries” for business owners, making them aware of potentially dangerous situations.
Think of your balance sheet like a canary in a mine. In the early days of mining, canaries were used to provide warnings to miners when oxygen was running low. In the same way, your balance sheet can be an early warning system that there are challenges in your business that need to be addressed … before it is too late!
There are five key reports I recommend you familiarize yourself with so you can make the best possible decisions about your business. Those reports are:
- Balance sheet (also known as “statement of financial position”)
- Income statement (also known as “profit and loss statement”, P&L, “statement of earnings”, “statement of financial performance”)
- Accounts Receivable Aging
- Accounts Payable Aging
- Budget vs. Actual
Let’s look at an overview of each of these reports.
The balance sheet is an overview of what the business owns (assets), what the business owes (liabilities), and what has been invested in the business (equity).
The balance sheet report is run and reviewed “as of” a certain date. Although any date could be used, it’s most typical that you would be reviewing at month-end, quarter-end, or year-end.
Because your business is always in a state of flux – with your assets and liabilities (and to a lesser extent, equities) potentially changing from day-to-day, your balance sheet will likely appear different every time you review it.
The balance sheet is a snapshot reflecting the accumulate total of cash, inventory, investments, and debt the company has as of the date of the report. As such, the balance sheet can reveal the financial strength or weakness of a company.
Here’s where you’ll see the revenue, income, and expenses for the business over a period of time.
Specifically, the income statement will show the revenue, net revenue, cost of goods sold, expenses, and net income.
Much like the balance sheet, an income statement can be run at any time. However, a month is the shortest period that you’re likely to analyze.
Because profitability is one of the key metrics you can see based on income statement data, it is one of the most important reports for any business owner to regularly review.
Budget vs. Actual Report
This report compares two separate reports from your accounting system covering a specified period of time. All businesses should have a budget, and it’s usually simple to upload that information into an accounting system. Once input, a “budget vs. actual” report can be run. This compares the actual results of operations from the income statement to the original budget.
This report will show you if you spend more or less than budgeted for any line item in your Income Statement, indicating if the predictions you made when creating the budget were accurate. Predicting the future is impossible but using tools such as a Budget vs. Actual report can help you make informed decisions about the future of your business based on past performance.
Statement of cash flows
Cash that is coming into, and going out of, the business is reported in the statement of cash flows. The cash measured by the report includes that from three types of activities: operating (sales of products and services), investing, and financing. This report becomes more important as your business moves from cash basis accounting to accrual basis accounting, and as you make more complex decisions with the ways to use your cash.
Your statement of cash flow is different from your balance sheet and income statement in one critical way: it shows you where the cash has been spent. Many business owners mistake Net Income on the Income Statement as their “leftover” cash at the end of the reporting period. That’s not correct. A statement of cash flows helps you translate between the balance sheet cash balances and the income statement ins and outs.
Accounts receivable aging and Accounts payable aging
These reports should be run periodically to inform business owners of the amounts due (“receivables”) from customers or clients (receivables) and the amounts the business owes (payables). You should be reviewing this report each month.
The aging data is broken down in time increments, which are typically:
- 0 – 30 days
- 31 – 60 days
- 61 – 90 days
- 91+ days
A total is also provided, allowing you to quickly see the aggregate of payments due from or to the company.
If you’re not already creating – and using these reports to increase the financial stability of your business – I urge you to start doing so as soon as possible.
And watch for my next post, “Balance Sheet Basics and Beyond”. We’ll dive into some of the details of your balance sheet in this powerful report.
Hannah Smolinski is the CEO of BrightenUp Financial. Small businesses hire Hannah to provide CFO-level services that allow them to grow and thrive, rather than simply survive.