Before starting a business, many owners envision a world of glamour and glitz as opposed to hard work and grit. This sentiment is almost never more true than when they take their first look at a balance sheet. Face it: when it comes to financial reports, you either like them or you don’t.
No matter what your feelings are on balance sheets, you NEED to be able to understand the financial health of your organization. I see far too many business owners dedicated to everything in their company but their balance sheet. They slave over R&D, work tirelessly on delivery, staff, train and courting new customers but never truly understand how to maximize all of this work into bottom line profitability.
And I get it. It’s supposed to be easy. Receive money for a product or service, spend less than the money received to make or deliver that product or service, and what’s left is your profit. However, businesses that grow get much messier than that. So the first tool I go to in order to gain an understanding on the general health of my companies is the balance sheet.
Now, the balance sheet shouldn’t be the only tool you use to make financial decision when it comes to expanding your staff, increasing operational technology or buying your first building. There are other ways to measure success and other considerations for your business. But your balance sheet is a starting point, and it will give you a better pulse on how your company is looking.
A balance sheet is a report that provides you with a quick snapshot of the financial stability at a given point in time. It consists of three main data groups: Assets, Liabilities and Owners’ Equity. These reports can be formatted a couple of different ways but the basic rule is that assets are on one side while liabilities and equity are on the other and the totals for each are always the same. Total assets will be the same as total Liabilities plus Owners’ Equity.
Or represented mathematically:
Assets = Liabilities + Owner’s Equity
Let’s dive into a little more detail about each of these data points.
This is where your value is listed. If the company owns something and there is value in it, then it should be listed here. Things like cash in the bank and money owed to you (accounts receivables) are the first for new companies. But as you grow you may accumulate additional assets like investments and property such as real estate or equipment. If you have a company car, trade show supplies, office furniture or anything else of value as property of the company, it gets listed here.
This is where money you owe is noted. The loose way of putting it is that anything you’d consider debt due to another party would qualify as a liability. Items like accounts payable, loans and taxes should all be itemized as liabilities.
This is the line I pay most attention to. Sure it’s nice to watch your assets grow with pride, and it can be scary when reinvesting or obtaining a new loan to see that liabilities column skyrocket. BUT it’s the owner’s equity that keeps me focused because the owner’s equity is the net worth of the company. This is where you can see how much is left over after receiving money for a product or service. When you spend less than the money received to make or deliver that product or service, what’s left is either your profit or your owner’s equity on the balance sheet. This line- commonly referred to as the “bottom line”- shows you how much would be left if you sold everything of value and paid off all money owed.
And there you have it. See? Not so bad. If you don’t already I would strongly encourage you to have a weekly balance sheet review. Because the data is organized so easily, this can be reviewed and digested in minutes. Knowing what’s on your balance sheet will make you more educated as a business owner, and better prepared to make powerful decisions about the future of your company.