How’s business? It’s a common question that comes up all the time.
Honestly, do you even know?
And if you don’t, do you know how to find out? There are two options, one’s an easy fix and well, the other… not so much.
A quick call to your bookkeeper or accountant will get you up to speed. But what if you just want a general idea or you’re more of a DIY’er when it comes to your business finances?
Knowing how to read your financial statements is crucial to understanding where your business stands. One of the three most important financial statements is the balance sheet.
What is a Balance Sheet?
An accurate balance sheet is key to a successful business, no matter the type of business.
Once you understand your balance sheet, you will always know where your company stands at any given time by determining your business’s net worth.
The definition of a balance sheet is:
“1. A tabular statement of both sides of a set of accounts in which the debit and credit balances add up as equal
2. A statement of the financial position of a business on a specific date.”
Elements of your balance sheet will include:
- Liabilities; and
- Owner’s equity (for sole proprietors)
We will get into each element of your balance sheet below. For now, let’s review why you need to worry about having a balance sheet.
Purpose of a Balance Sheet
Knowing your business’s net worth can assist you if you need funding or if you want to sell your business in the future. It can also help you determine the financial health of your business when it comes to:
- Further expansion or developments;
- Paying money owed to others;
- Purchasing additional equipment; and
- Hiring employees.
You might want to make snappy decisions when an opportunity arises, so knowing how to read your balance sheet is crucial. If you’re not entirely comfortable with your business’s financial situation, it’s always best to meet with a professional before making any business decisions.
Your assets are the gold of your business. Assets include anything that has a dollar value which you can further sort into categories of:
- Current Assets; and
- Non-Current Assets.
Your current assets include anything that you can convert into cash within a short time frame. These include:
- Cash, including currency and money in bank accounts
- Short Term Investments
- Expenses that you’ve pre-paid that you will use within the next year
- Accounts Receivable owed and payable within the next year
Non-current assets are not easily converted into cash and would include assets such as:
- Real estate property
- Long-Term Investments
Your liabilities are debts or the other financial obligations of your business. Everyone has them; it’s just a matter of making sure you can afford them – which is where the magic of your balance sheet comes in.
Just as with assets, there are current liabilities and non-current liabilities (usually fixed and long-term).
Your current liabilities are things that will become due soon, usually within the following year. These would include:
- Accounts Payable
- Employee wages and salaries; and
- Taxes owing.
Your non-current liabilities are amounts that you owe for the long-term and would extend well past the year mark. These would include:
- · Mortgages; and
- · Leases and loans for equipment or vehicles.
Now, this is where the magic happens.
The balance sheet formula is what you’ll use to determine your equity in the business (your owner’s equity). You will use two equations for this purpose:
Assets = Liabilities + Owners’ Equity; or
Owner’s Equity = Assets – Liabilities
If your owner’s equity is positive, your business is in a good place as your assets exceed your liabilities. On the other hand, if your equity is negative, your business may need some help financially, so it’s crucial to understand how to read and use your balance sheet.
The Learning is Far from Over
A balance sheet is a constantly evolving document. It contains a snapshot of your business at any given time. This might just come in handy when your uncle decides he wants to sell you something at your next family gathering.
That does and will happen. If you’ve kept your balance sheet up to date, at least you’ll have a good idea of where your business stands and what you can and can’t spend money on and, more importantly, how much is available.
Not only will your balance sheet help you harness opportunities, but it will help you feel less overwhelmed when it comes to debt management.
Do you want to get a balance sheet set up for your business right away? Has your business grown to the point where creating your own balance sheet is out of the question?
If that sounds about right, book an initial consultation with us today, and we can discuss in more detail how our customized packages will be just what you need to get you on the path to knowing your balance sheet.