Do you know how your business is performing financially?
To most business owners having to produce any form of financial information is a necessary evil and not something that they enjoy doing and for that reason they tend to leave it until the last moment which equals added pressure!
What if I told you that keeping your financial records accurately and up to date can really help you understand how your business is doing? Producing and understanding financial reports can really help you to make effective financial business decisions.
In order to produce timely, accurate month end reports you need to ensure that all information regarding your income, expenses and bank transactions has been recorded before producing the reports.
The two main reports that you need to be familiar with are your Profit & Loss (P&L) and your Balance sheet:
As the name suggests this report will let you know if your business has made a net profit or a loss for the period; the bottom line of this report will confirm this figure for you and at a very basic level if you’ve recorded more income than expenditure you will have made a profit and if your expenses are greater than your income then it will be a loss.
For most business owners, if they don’t really understand this report this is all they will really look at, however, if the structure of your accounts has been set up effectively then you can gain a lot more information from this report.
A standard P&L is set out to record sales at the top, then deducts cost of sales (any costs that relate directly to the sales) to calculate the gross profit. The gross profit will let you compare the sale price of your products/services to what it costs you to produce/provide them.Other costs relating to the running of the business are then listed and deducted from the gross profit to give the net profit. You can compare your gross profit to your net profit to check how the cost of running your business compares with the amount you are making on the sale of your products/services.
The financial strength of a company is measured by its capital and this is calculated by taking the liabilities away from the assets and this is exactly what the balance sheet does.
- The fixed assets are listed at the top (this will include computers and furniture)
- Current assets are listed next (this will include stock, debtors, prepayments, bank and cash)
- Current liabilities are listed next (Credit cards, creditors, directors current account, accruals, VAT, PAYE & NI, corporation Tax)
- Long term liabilities are listed next (items that won’t be paid back within a year)
- To get the balancing figure on the balance sheet we need to subtract the total liabilities from the total assets
As the calculation is explained at the top this figure needs to equal the capital and this is broken down into capital and reserves (capital is the name given to the funds that have been invested in the business, usually known as shares. Reserves is the name given for the profits of the business from previous periods e.g. retained earnings) to make up the other balancing figure:
- Shares are listed
- Retained earnings are listed next
- Profit & loss account is listed next
- The sum of these should then equal the balancing figure calculated above
Looking at the balancing figure gives you an idea of how a business is performing; does this business have greater liabilities than assets? Does it have many assets but limited cash? How much it’s owed by its customers and how much it owes to suppliers. Does it have large bank loans etc? All of these things help to build a picture of the financial status of the company.
Most accounting packages will have these reports as a standard so you can run them as and when needed or your accountant or bookkeeper should provide these to you on a regular basis.
I do hope this whistle stop tour of your profit and loss and balance sheet reports has helped clarify what information they contain and how to interpret it.
By: Carol Bridgman
Rosemary Bookkeeping, An altogether friendly bookkeeping experience.