Become very familiar with your balance sheet. A balance sheet shows where your
business stands at any particular moment. A profit and loss statement (also called an
operating statement) totals the result of operations over a selected time period. Each
statement is merely a collection of figures. However, with proper interpretation and
evaluation, this collection of figures becomes an important indicator of how financially
successful the business is at this time. Financial success is the end result entrepreneurs
seek. Understanding the balance sheet and the implication of the financial results it
reveals are valuable tools in making operating decisions that will impact sales, expenses
and profit.
The single balance sheet is like a snapshot. It measures the condition of the company
at a single moment in time. The balance will show how the capital within your business is
distributed. The amount of capital distributed over the various accounts in the business
and the surplus of assets over liabilities shows profitability. If the snapshot shows that
liabilities are greater than assets, you then see a loss position for the company at that
time. Even more important are trends over time. A company may have a month with high
expenses that result in a loss. However, the trends may show five months of profitability.
The net effect of the six months may be profitable, even though one month showed a loss.
The concern is if three months show a loss, then the owner must decide how to overcome the
negative cash position.
Compare balance sheets over a period of time to gain an understanding of your assets
and liabilities. Let’s say you review your quarterly balance sheets over several
years. By comparing these on an item-by-item basis, you can spot trends. You are now
gaining a real understanding of the overall financial structure of the firm. For example,
larger quantities of merchandise on hand from one period to another may be a reflection of
that decision to buy ahead because of continuing inflation. Receivables may show a
continuing upward trend when collection of outstanding accounts is not pushed for
collection within 30 days. Debts may run higher when the firm expands or makes capital
improvements. This information provides management information, to help the owner make
decisions about the prudent and fiscally sound operation of the business.
The profit and loss statement is another valuable tool in ascertaining the
company’s performance for a given period of time. The statement will show sales
volume, cost incurred and the amount or profit or loss. Comparing the profit and loss
statements of success periods monthly or quarterly can be very revealing. Why was there a
lower gross profit for each of several quarters? Did price cuts decrease per sale
profitability? Was a higher proportion of sales spent on operating costs such as
personnel, rent or insurance? Are overhead costs increasing routinely?
Although, your accountant should be able to give you advice and guidance, you should
also have a clear understanding of how to read, interpret and act on financial
information. As the decision maker, you need to know what effect decisions have exerted on
profit in the past and what decisions need to be made to control costs, increase
profitability and improve cash flow. The flow and use of money in your business is
critical. Your salary and the continued profitability of the business depend upon you and
your ability to make sound financial decisions.
If you would like information on how to read and interpret financial data, contact the
SCORE Association (Service Corps of Retired Executives). SCORE provides free and
confidential, small business counseling and mentoring to entrepreneurs. SCORE’s
volunteer, business counselors have assisted more than 3.5 million entrepreneurs. For a
referral to the SCORE chapter nearest you, call 1 (800) 634-0245.
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