Importance of Financial Statements for Small Businesses
Financial statements are essential to small businesses. They provide information about a company's revenue, expenses, profitability, and ability to meet its financial obligations. Financial statements reflect a business's performance and the company's financial status.
Every small business owner desires to grow and expand into a big business. Sadly, most small business owners do not know their business financial position. They are only concerned with generating revenue. If you are using an accounting software like Quickbooks Online you can run these reports with a click of a button.
In this article, we shall be discussing the three important financial statements every business owner needs to know — the Profit and Loss statements, balance sheets, and statements of cash flows — and how they can use these financial statements to utilize their business performance effectively.
Let's delve right in!
Profit and Loss Financial Statement (P&L)
A P&L statement is prepared to measure the revenue earned (profits) and expenses (loss) incurred by a business for some time. Depending on the business model, it can be prepared monthly, quarterly, or annually.
To prepare a P&L statement, you'll need the following entered into your Quickbooks Online software:
● Sales receipts
● Sales invoices
● Credit notes
● Bank statements and completed bank reconciliations
● Cash sales listings
To calculate gross profit: subtract total cost of goods from total revenue.
To calculate your net income(loss) which is your bottom line, you subtract the total amount of business expenses from your gross profit.
A small business will expand, grow, and attract more investment when its profits are way more significant than its losses.
Balance Sheet Statement
A balance sheet shows what a company owns (assets) and owes (liabilities) and the difference between the two (equity). It is usually prepared at the end of an accounting period.
It is called a balance sheet because both the asset and liability must balance at the end of the account.
Items on a balance sheet statement are:
● Assets — properties that can be converted to cash. E.g., cash and cash equivalents, stock inventory, bank drafts, and investments
● Liabilities — debts and obligations that take money from a business. E.g., bank debt, mortgage, tax, and other accrued expenses
● Equity —how much you get paid for selling your asset after clearing the liabilities
A proper balance of assets and liabilities provides a stable foundation for a small business to grow.
Cash Flow Statement
Cash flow is the movement of money in and out of business. A cash flow statement shows how much cash is generated and used during a given period. It measures how well a company generates money to pay its debt obligations and operating expenses.
Your business cash flow is how you use that cash to generate profits and pay for expenses incurred by the business. Your business cash is not just your profit; it is the total cash available for your business operation. I.e., gains made on sales/services plus your initial capital.
An increase in revenue shows that a business is making more sales which means more money coming in. For the cash flow to keep increasing, more cash should keep coming in while the cost remains stable.
The cash flow statement only considers the amount of cash at disposal (money coming in and going out) for business operations. It does not recognize debts being owed or money yet to be received.
Conclusion
With financial statements, small businesses can confidently and accurately predict their future performance and growth. More so, as a small business owner, understanding your financial statements will help you evaluate and make suitable economic decisions in the long run.
