The objective of every business is to earn profits. People arrange funds differently, some borrow money from their family and friends, while some take loans from a bank. To make your startup operations smooth and to manage the inflow and outflow of money, financial documents are very important.
How will the small business keep a record of profit and loss they get every month, every quarter, and every year? The financial documents are critical, especially for large firms, but in the case of small businesses, it compromises a few parts. Sometimes small businesses fail because owners don’t keep an eye on the firm’s cash flows that result in losses.
For the success of a business, you need to make some rational decisions based on financial reports. Let’s have a look at financial documents that are required for small businesses.
A balance sheet is like a mirror that reflects the financial health of your business. Many investors and small businesses make the mistake that they directly go to the income statement instead of the balance sheet. It’s a big mistake. You should start with the balance sheet to gauge financial health. Why? Because a balance sheet shows the business fiscal health at a given period in a summarized form.
What does the balance sheet of a small business contain?
The balance sheet consists of three major columns.
- Owners’ Equity
Assets are also differentiated on other qualitative factors.
Tangible- They are those assets to which you can feel and touch like buildings, land, and furniture.
Non-Tangible- Intangible are those assets that can not be felt like patents, copyrights, and goodwill.
Both of these are the possessions of the company. Assets are further categorized into long-term assets and short-term assets.
Long-term assets are usable for more than 5 years, and short-term assets are used for less than 5 years.
Looking at the asset side of the balance sheet, a businessman can check how much cash he has and how he can run funding operations. The balance sheet shows a company’s hard assets like equipment and plant and checks the useful life of its assets after the rate of depreciation.
The liability side of the balance sheet shows how much a company owes. Small businesses should know that if they have taken a higher level of long-term debt, then they are at greater financial threat as compared to the companies with lower financial debt. Short-term debt on the balance sheet shows debt that’s due in one year or less than a year. It is called accounts payable. A large amount of accounts payable shows heavy use of vendor financing, and it can create a problem in cash flow.
The Owners Equity
The owner’s equity is the last part of the balance sheet. It shows what is left for the owner after he has paid the liabilities that he owed. Whether he wants to keep them or reinvest in the business is his choice.
The income statement is the report card of your business. The balance sheet shows the position of your business for a particular period, whereas an income statement shows an overview of your business over some time. The income statement is also called a profit and loss statement. An income statement shows how profitable your business is by subtracting the expenses from total revenues to know the actual profit and loss position. The net profit and loss will help you to decide which unnecessary expenses should be avoided, whereas the balance sheet shows what you owe to others. An income statement shows how your small business is doing in terms of losses and profit. Moreover, it helps to identify how much cash is available with you to take your business to the next level and how much you need to spend.
Cash Flow Statement
Don’t get confused if your income statement is showing profits. It may not be the case. The outflow of cash can be more than cash inflows. Let’s have a look at how a cash flow statement is different from an income statement. It is like the income statement but it is related to the company’s profitability. The main purpose of a cash flow statement is to look at which money is coming into the business and which money is going out of business.
A cash flow helps the business to work more efficiently. If your small business needs to pay the fixed or variable cost then cashflow will let you know whether your small business will generate a small amount or not. Thus, to manage your day to day operations of the business and to make long term investments, cashflows will help you to a great extent. Cashflows also help you to expand your business.
Starting a new business and managing it properly is a tedious task but this task will become easy if you interpret these financial documents accurately. The balance sheet, the income statement, and cash flows are important financial documents. They provide you with financial insight into your business. If you want to expand your business in the global markets, you need to analyze these documents.
To stay ahead of fierce competition and to make rational choices for your business, financial documents will help you tremendously.