As a business owner, you need to be able to understand the financial health of your company. Financial statements are a key tool for measuring the profitability and liquidity of your business, as well as for making informed decisions about its future. Let’s take a look at the three main financial statements: the balance sheet, income statement, and cash flow statement, and how to prepare them.
- Balance Sheet: The balance sheet is a snapshot of a company’s financial position at a specific point in time. It shows the assets, liabilities, and equity of the business, and represents the accounting equation: assets = liabilities + equity. The balance sheet is prepared by following these steps:
Step 1: List all assets, including current assets, such as cash and inventory, and long-term assets, such as property and equipment.
Step 2: List all liabilities, including current liabilities, such as accounts payable and short-term loans, and long-term liabilities, such as mortgages and bonds.
Step 3: Calculate equity, which is the difference between assets and liabilities.
Step 4: Ensure that the total assets equal the total liabilities and equity.
- Income Statement: The income statement shows the revenue and expenses of a business over a specific period, such as a quarter or a year. It shows the profitability of the business and is prepared by following these steps:
Step 1: List all revenue, including sales and other income.
Step 2: List all expenses, including the cost of goods sold, operating expenses, and taxes.
Step 3: Calculate the net income, which is the difference between revenue and expenses.
Step 4: Ensure that the total revenue equals the total expenses plus net income.
- Cash Flow Statement: The cash flow statement shows the cash inflows and outflows of a business over a specific period. It provides insights into the liquidity of the business and is prepared by following these steps:
Step 1: List all cash inflows, including cash from sales and investments.
Step 2: List all cash outflows, including payments for inventory, operating expenses, and debt repayment.
Step 3: Calculate the net cash flow, which is the difference between cash inflows and outflows.
Step 4: Ensure that the net cash flow equals the change in cash balance for the period.
Conclusion
Preparing financial statements is essential for understanding the financial health of your business. By following the steps outlined above, you can create accurate and comprehensive balance sheets, income statements, and cash flow statements. These statements can provide valuable insights into the profitability, liquidity, and future prospects of your business.