Using Financial Statements As a Management Tool
They're not just for accountants, investors and lenders
Financial statements are used to give you much more than just a snapshot of your business’ health. Your financial statements can also be used as a powerful management tool to affect positive change within your organization—when used the right way.
As a business owner, financial statements are used to provide shareholders, partners or potential investors with key business metrics. It’s also a powerful diagnostic tool business owners can use to evaluate their firm’s strengths and weaknesses, which can help you chart the way forward based on doing more of what works for the greatest impact on your bottom line.
The three main components of your financial statement, a balance sheet, income statement, and cash flow statement all combine to tell you a significant amount of detail about what your core competencies are, and what your potential weaknesses may be. Beyond just the obvious of identifying potential shortages in revenue, going through the activity of creating and maintaining these statements will show you which products or services perform best for your company.
This three-part series will explain how to craft a balance, income and cash flow statement, guiding you through the criteria and terminology, demonstrating how to calculate the ratios that reveal your company’s fiscal health and its standing among the competition, and suggesting ways to improve your outlook. The act of compiling these statements will teach you an immense amount about the health of your business, and give you some direction ideas on where you need to improve.
Here's a brief explanation of these three main financial statements:
- Balance sheet: The balance sheet is often described as a snapshot of a company’s performance at a given time, such as the end of a quarter or fiscal year. The balance sheet identifies your company’s assets and liabilities -- divided into near- and long-term obligations -- and stockholders’ equity. This financial statement is the most important directional guide on the health of your business, as it will indicate exactly how much your business owns and owes to others.
- Income statement: Also known as a profit-and-loss statement, the income statement summarizes a company’s revenue and expenses for a given time period. This financial statement is crucial because it gives you a very clear view of your monthly revenue and expenses, side-by-side without any other information in the way.
- Cash flow statement: This records the amounts of cash and cash equivalents that flowed into and out of a company in a given period. It is used to measure how much cash a company has on hand, which influences its ability to pay suppliers and employees and to meet other near-term obligations. The cash flow statement is also typically used to project how much revenue can be expected in the near future, estimate the amount of upcoming expenses, and make a judgement as to where there may be any revenue gaps with the potential of non-payment of business liabilities & debts.
Starting your business off on the right foot with the correct financial statements and a realistic maintenance plan for keeping these records in order, is essential. Not taking this aspect of your business seriously enough is one of the most common mistakes for those new to running their own companies.
Aside from the obvious benefits of having your financial statements in order for tax season each year, having accurate financial statements are essential if you ever want to sell your business (or bring in outside investors).
Any bank, financial institution, or private investor considering making a loan to your business, will need to see the proper financial statements. To someone external who doesn't fully know your business, these statements are how they're going to measure the value of your company.
In the continuation of our series on how to compile your financial statements for your business, we're going to teach you step-by-step how to compile each of these statements so that your business truly benefits from them. On top of that, we're going to show you the tools and strategies that'll help you manage & keep them up-to-date as your business grows and progresses into the future.
Continue here: Part 1 – The Balance Sheet