It’s a true business maxim: When you understand your financial statements, you remove the obstacles that cloud your judgment, and you validate the success you believe is unfolding. And by scrutinizing financial details, you’ll get truly rewarding insight into the status of your business. Not just a general impression.
Status check: By monitoring your financial statements at least monthly, you can see why you’re profitable. Or not. Sometimes, for example, robust sales don’t really increase profits. In many instances, rising revenue may trigger greater costs. Inspecting the trends in profit margin in crucial: If variable costs increase faster than sales, the profit margin suffers. Your business’s opportunity for growth is stunted until you address the environment for expansion.
Remember that accrual basis financial statements best reflect current conditions. Under this system, revenue is counted when earned, regardless of when it’s collected. Expenses are recorded as they’re incurred, not when they’re paid. Consequently, accrual basis tends to match the timing of expenses to the periods in which they produce revenue.
Many astute entrepreneurs use accrual financial statements for decision making and cash basis financials for income tax reporting. Accounting software commonly produces reports for either method.
Cash flow statement: Businesses run on cash, so you’ll need a cash flow statement. This report compensates for accrued revenue not yet collected and accrued expenses not yet paid. However, if customers usually pay invoices immediately, and you remit payment of your bills promptly after receipt, cash basis financial statements are usually adequate; they’ll deliver the same general figures as accrual basis reporting and eliminate the need for a cash flow statement.
Cash flow is also impacted by money that flows to categories such as loan repayment and equipment purchases. Evaluation of the business balance sheet reveals the extent of these changing balances. Moreover, the balance sheet shows compensation to you as the owner or shareholder of your company. Make sure you’re not drawing too much. Your take comes after you meet priorities that keep the business prospering.
Waiting until year-end to examine financial results inevitably leads to false interpretation. No matter what the size of your business, insist on accurate monthly bookkeeping. If you do maintain your own accounting system, get regular professional assistance to correct errors and omissions and help interpret the financial status of the business.
The accrual method eliminates wide swings in profitability rendered by the cash basis. Note that you likely will need professional bookkeeping help, if, for example, you experience substantial time lags awaiting customer payments or expenses that vary with revenue.
Contract projects: Businesses that handle contract projects for customers should know the profitability of each individual job. In job profitability accounting, your bookkeeper needs sufficient information to properly record events. For example, a bulk purchase for multiple jobs must be allocated among various projects.
Happy 2017: With timely and accurate financial statements – and by following an optimal methodology – you avert year-end surprises, identify profitable opportunities and are able to immediately implement improvements. What better way to go into a new year…