- July 7, 2020
- Posted by: saenicsa
- Category: Accounting, Business plans
One of the most important, but greatly overlooked statements within your financial statements is your Balance Sheet.
This is because the Income Statement or what is also known as the Profit and Loss (P&L) statement is usually the go to statement that many business owners focus a lot of their time on simply because it is the statement that tells you how much money your business is making and what your expenses are. Of course, this is important, but it isn’t everything.
The Balance Sheet is also a very important statement that you need to be familiarized with and today we are going to find out why.
What does the Balance Sheet tell a business owner?
The Balance Sheet is a statement that shows you important historical financial information up to a specific date for your company, since unlike the income statement, the Balance Sheet accumulates and doesn’t clear out, so to say, like the expense and income accounts on the income statement do.
So, when we look at the Balance Sheet, we can find out on a specific date how much cash is available for a business, what the accounts payable are and as well as profit for year-to-date.
Let’s take a look at the Balance Sheet
When looking at the Balance Sheet the easiest thing to notice is that there are three sections: Assets, Liabilities and Equity.
Your Assets on the left side of the statement are put in the order of which are quickest to convert to cash, this is why cash is always first and never land or buildings.
Liabilities also follow a logical order, but instead they are governed by what payables are due first, so this is why any long-term debts such as a mortgage are always at the bottom.
Meanwhile, the Equity section shows us basically how much capital has been put into the business by the shareholders, what are the accumulated earnings the company has accumulated over time and even what the current profit is for year-to-date.
These sections each have an important correlation between each other. What do we mean? Well the accounting equation that every business bases their accounting on is the following:
Assets = Liabilities + Equity.
This equation is very clearly shown on the Balance Sheet, hence the name.
Let’s take a look at an example:
As you can see the sum of all assets is equal to the sum of both liabilities and equity.
The importance of the Balance Sheet in Planning for the Future
Why is the Balance Sheet so important? Well the Balance Sheet can tell you a lot of things, but today let’s stick to 3:
- It can tell you how well kept a company’s accounting is.
The Balance Sheet will show balances for accounts for as long as those accounts exist and have balances in them. This means that if there are a lot of accounts that have balances that over time have been overlooked and instead just clutter the Balance Sheet, most likely the accounting for that business has been neglected.
- Plan and adjust for financing needs.
A company’s Balance Sheet can also tell you important information regarding the cost of producing a product. Why? Well, if a considerable amount has been invested in acquiring equipment necessary for producing the products a business sells and in turn the funds to buy the equipment were acquired through financing, this important information is most easily found on the Balance Sheet and it is an important indicator as to the financial and equipment costs related to what is necessary for the maintenance of the continuity of production. This goes without mentioning that if a lot of the equipment items are heavily depreciated, then soon a considerable capital purchase will need to be made to replace these items.
- Know who you owe and who owes you.
If you don’t know what your clients owe you then very easily this can be forgotten or worse, never billed! And, just as it is important to know who owes you, when running a business, it is imperative to also know who you owe. Keeping track of your payables on the Balance Sheet is important to making sure that you avoid cash problems later one. So, don’t ever overlook your Balance Sheet!
Well we hope that you have liked this article and as an accounting firm in Nicaragua, feel free to contact us with relation to any of your accounting or tax needs, we would be glad to assist you.