Hard work and motivation will take you far as a new entrepreneur, but they’re not enough! To grow and sustain your small business, you need to know how to manage your money. Even if you enlist the expertise of an accounting professional, you as a business owner should have a fundamental understanding of how well your company is doing financially.

 

These three basic accounting reports can help:

1. Profit And Loss Statement (a.k.a. Income Statement)

This report shows your revenue and expenses during a given period. It answers the question, “Is my business profitable and how profitable is it?”

The math within a P&L statement is rather straightforward; your company’s revenue is added in one section, all of your expenses are added in another, and then a profit or loss is calculated by subtracting total expenses from total revenue.

Entrepreneurs often refer to their P&L report on a monthly, quarterly, and annual basis. Comparing recent Income Statements with those for a past period (such as the month, quarter, or the year prior) will allow you to see how your company’s profitability has changed over time.

According to Russ Smith, SCORE Maine mentor and financial workshop presenter, “The income statement is one the most important tools you have at your disposal for managing your business. If you spend time with your income statement, it will not only help you identify problems, but it will also provide insight into how profitability can be improved. It will help you evaluate the success of new products, services, and locations.”

Smith shared the following “case study” of how a P&L statement helped a SCORE client:

“We had worked with a client who owned a pub restaurant that was famous for its steak tips dinner. The client had recently hired a new cook and noticed that his food costs on the income statement had increased dramatically as a percent of sales. We observed the new cook, a large man with equally large hands, grabbing a handful of steak tips and putting them on the grill. When we weighed the handfuls, we discovered they averaged 14 ounces—which was 5 ounces more than the 9-ounce portion that was supposed to go into the tips dinner. A scale and some plastic bags quickly solved the problem and put costs back in line. Without his income statement, our client may have never known his costs were escalating.”

 

2. Cash Flow Statement

This report provides a list of your company’s incoming and outgoing transactions and identifies how your business is spending money and earning money over a period of time. It allows you to see when and from where cash is flowing into your business and when and to where cash is flowing out of your company.

Even if your business appears profitable on your P&L statement, you could run into financial issues if your revenue doesn’t arrive in time to cover expenses when they’re due. Your cash flow statement can help you detect problems with cash flow, so you can take measures to fix them before you become delinquent in paying your vendors.

The ability to forecast what will happen and how shortfalls will be covered is critical to the survival of a business.

“Maintaining sufficient cash reserves in the business to meet anticipated demands is a recurring issue for business owners,” shared Smith. “How do I balance my need to take home a paycheck against the needs of the business? The cash flow statement can be very helpful in helping you figure out how to answer that question.”

Smith offered another case study of what can happen when you don’t mind your cash flow:

“Failure to manage cash flow can have both dramatic and painful consequences. Several years ago, a client had borrowed $200,000 through a home equity loan to finance the start of their family business. The business accelerated quickly, but within six months they had exhausted their working capital and had gone back to the bank for an additional loan. The bank turned them down. After extending payment due dates to two customers that owed them $40,000 at the time, the clients were unable to pay their suppliers. Suffice it to say it all ended very badly.”

 

3. Balance Sheet

This snapshot report shows the financial health of your company at a given moment. It details your assets, liabilities, and equity—as of a specific date. Typically, accountants and business owners will run a Balance Sheet report at the end of a month, quarter, or year, but it can be useful at any given point in time. A balance sheet most often is laid out with company assets listed on the left and liabilities and equity on the right. It represents the basic accounting equation:

Assets = Liabilities + Owners’ Equity

The totals on both sides of the equation should match, hence the name “balance” sheet.

Balance sheets summarize what your company owns and what it owes—something investors will want to know if they’re considering providing funding to your business.

“It is important to remember that strong personal and business balance sheets are critical when approaching lenders about borrowing money to grow your business or to finance gaps in your cash flow,” Smith said. “During the last recession, we saw many otherwise survivable businesses with decent balance sheets fail because their owners made bad decisions in their personal lives. The businesses may have been ‘bankable,’ but the owners were not.”

Knowledge is Power!

With a working knowledge of these three reports, you will have a better handle on whether your company’s performance is on target to achieving your financial goals. The accounting software you choose to use for bookkeeping will allow you to run these reports or you can ask your bookkeeper or accountant to run them for you. Now that you know about the three key financial statements, take these steps to take charge of your businesses financial destiny:

• Download SCORE’s Balance Sheet Template and Financial Projections Template to guide you
• Attend one of SCORE’s business financials workshops to dive into the details.
• Talk with a SCORE mentor to gain a better understanding of how these reports can help you manage and grow your company.