Balance Sheets Present the Real Picture

A balance sheet prepares you for wisely choosing your next moves. How? The direction you take and the initiatives you implement are highly dependent on what’s happened in the recent past, and that information is rooted in the balance sheet of your business.

The balance sheet is an important financial tool for business ventures of any size. Operators of small enterprises frequently overlook it, usually because they don’t fully understand how useful it can be.

Effectively, a balance sheet represents the overall status of your business and presents warning signs that don’t appear on a profit & loss (P&L) statement, which is more a statement of revenue and expenses. Lenders are keenly aware of the value of a borrower’s balance sheet, and will scrutinize it to uncover the real picture of the business.

The balance sheet reveals bookkeeping mistakes. Contrary to what many business owners believe, the use of accounting software does not automatically ensure accurate financial records.

Among the potential errors are incorrect inventory, overstated customer invoices, and understated vendor bills. These result in glaring errors on the balance sheet that skews the profit shown on the P&L statement.

Balance sheets are snapshots of account balances on given dates, such as month-end or year-end. The three sections are: (1) what you own (assets), (2) what you owe (liabilities), and (3) the difference between these two-which is your business net worth (equity).

The asset section begins with current assets-cash or assets easily converted to cash, such as accounts receivable and inventory, but also employee advances and similar amounts incoming in the short term. Each current asset account should reconcile to a financial institution statement or other corroborating record.

Fixed assets-equipment, furniture, computers, leasehold improvements, etc.-are items with a useful life beyond one year, and more than nominal cost.

The balance in each fixed asset account is your original cost for acquiring the assets in that category. Accumulated depreciation is a negative fixed asset account in which your original cost eventually ends up as it’s expensed over time.

Liabilities can be current-due in less than one year-or long term. Accounts payable, payroll taxes accrued but not yet remitted, credit card balances, and sales tax collected but not yet paid are examples of current liabilities.

Long-term liabilities are loans payable in more than a year. Each account balance should match other records-payroll reports, credit card statements, lender summaries.

The equity section shows sources of funds that make total assets differ from total liabilities. Types of equity accounts depend on whether the business is a corporation, partnership, or proprietorship. The most common reason for unequal asset and liability balances is the accumulation of business profits, which appear in the retained earnings equity account.

Current year profit is separately indicated, which matches the bottom line of the P&L. Other supplies of equity are capital from shareholders, partners, or a sole owner. Healthy businesses are profitable and have plenty of equity-and use the balance sheet to get the real picture.

The Mystery of the Missing Cash…And How to Solve it

Despite regular reminders to small business owners about the need to carefully track expenses, mistakes are made. The primary culprit? Expenses paid in cash. And, just as regularly, the failure to track this avenue of expenditures results in problems.

When expenses are paid in cash, records are easily lost and tax deductions go unclaimed. However, expenses paid by check, debit card, or credit card are easily tracked through statements sent by financial institutions linked to accounting software.

The savvy entrepreneur develops an unwavering plan to ensure expenses paid with cash are not forgotten. For example, always ask vendors for cash receipts and note on the receipt what the item is (as receipts are frequently unintelligible), plus other important details of the purchase. Then immediately make a manual entry into your accounting records.

You also can log expenses to a smartphone app or take photos of receipts with your phone and forward them to your bookkeeper. A photo has the added benefit of creating a permanent digital record, so you can destroy the original receipt.

Lost cash records occur not just in those businesses with cash drawers, but also in any business that withdraws cash from the bank to purchase several different items. You won’t be concerned about where that $100 withdrawal disappeared to if you systematically store receipts and separately record outlays for each of multiple items.

By regularly tracking your expenditures, you’ll ensure that cash expenses are accurately categorized and the evidence preserved: the case of the missing money is finally solved.