As a business owner or manager, you likely spend some time generating and analyzing financial statements. However, no two statements are of exactly the same importance. Some financial statements are essential to understanding the financial health of a business while others are less significant. Let’s take a look at the most important four financial statements for all businesses.
The Statement of Cash Flow
The statement of cash flow is a business financial statement that communicates where cash has gone in the context of business operations. The categories included in the statement of cash flow are a bit complicated, especially for those who do not have an accounting degree or working in the field. Furthermore, the total number of categories on the statement of cash flow also hinges on the company’s size. Large businesses typically have categories of financing activities, investing activities, operating activities, and supplemental information listed on the statement of cash flow. There are two categories on the statement of cash flow for smaller businesses: cash outflows and inflows. The overarching purpose of the statement of cash flow is to figure out where cash is coming in from and where it is moving out to. This is the insight a business needs to determine if it is spending more money than being generated.
The Income Statement
The income statement reveals the company’s net loss or net income. This statement tracks the money that is coming into the business and also the money that is going out of the business. Expenses are money that is paid out. Revenue is money that is paid in. If expenses are greater than revenue, the income statement displays a net loss. The categories listed on the income statement are operating expenses, non-operating expenses, and sales. An example of operating expenses is the money spent for advertising, be it on billboards, magazines, the internet, radio ads, TV commercials, or elsewhere. An example of a non-operating expense is a single purchase made for use at the business. Goods sold constitute sales.
The income statement, also sometimes referred to as the profit and loss statement or P&L for short, makes it clear how a company’s revenue translates to earnings. The income statement is essential for tracking changes to the company’s finances, similar to the manner in which a doctor tracks alterations to a patient’s health over a period of time with ongoing assessments.
The Statement of Owner’s Equity
There is the potential for changes to be made to the equity of the business owner in between periods of accounting. These changes are revealed on the financial statement known as the statement of owner’s equity. This financial statement includes information pertaining to the starting equity balance, additions as well as subtractions, and the ending balance. Additions and subtractions are applicable to a certain period of time, including financial transactions ranging from withdrawals to dividend payments and income.
The Balance Sheet
Though the balance sheet does not receive as much attention as it should, it is an important financial statement. The balance sheet includes information pertaining to the company’s liabilities, assets, shareholder equity, and owner equity. Such assets include everything owned by the business ranging from inventory to property, cash, and beyond. The balance sheet’s left side lists the assets. The balance sheet’s right side lists equity and liability. Liabilities are inclusive of accounts payable or payment types made on a long-term loan. Shareholder equity or owner equity is determined when the liabilities are subtracted from the assets. In short, the reason why the balance sheet is known as such as there is a balance in the sense that the liabilities added to the shareholder equity equal the number of assets.
The balance sheet is particularly important as it provides a snapshot of a company’s financial position at a specific moment in time, empowering a business owner or manager to establish the company’s most important ratios such as solvency versus liquidity that are particularly important for debt management. The balance sheet also makes it easier to understand if the business can cover the cost of bills, distribute dividends, obtain more capital, etc. Spend the time necessary to develop a thorough understanding of your company’s balance sheet and you will feel empowered to budget with that much more confidence, knowing your numbers will be as close to accurate as possible, setting the stage for prudent financial management. The end result is more efficient managing operations, enhanced communication with managers, and improved collaboration.