Whether you have employees, a paid bookkeeper, or a helpful spouse, if you are a small business owner, it’s your responsibility to keep an eye on your books. All too often, I meet small business owners who put the accounting responsibility in someone else’s hands and then claim ignorance when it comes to their books.
While I don’t believe every business owner needs to know the exact details of how to run their accounting software, I do strongly believe that every business owner, manager, nonprofit director and even shareholder, should have a basic understanding of financial statements so they know when things aren’t right. There are two basic financial statements, the Profit and Loss Statement and the Balance Sheet. Both are crucial to understanding your business and if you follow a few basic principles, you’ll feel much better about understanding what looks like hieroglyphics at first glance.
The Profit and Loss Statement shows the income and expenses for a company for a given period of time. The top line of this statement should show the revenues and the majority of the statement should list out the various expenses of the organization. Just about every number on this statement should be positive. If you start to see negative numbers, that is an indication that the bookkeeper is mixing up the concept of income versus expenses, which is more common than you would expect.
Another prevalent issue I see on the Profit and Loss Statement is that it becomes too detailed. If your financial statements are more than one or two pages long, you are tracking your expenses at far too detailed of a level. For example, advertising is an expense recognized by the IRS. If you feel the need to break advertising into twelve different subcategories, you’re eventually going to lose the quality of your information because it will become too overwhelming. The simpler you keep your chart of accounts, the shorter and more effective your Profit and Loss statement will be.
At first glance, the Balance Sheet seems more complicated than the Profit and Loss, but if you look at it closely, it should make logical sense. At the top, it lists the assets of the company, such as cash, vehicles and property. The next section lists the liabilities, most commonly accounts payable, credit cards and loans outstanding. And, lastly, the only section of the financials where negative numbers are allowed, the equity section. Equity can be a bit tricky, but it should reflect your retained earnings, otherwise known as the profit or loss of the business since its inception and in the case of a privately held small business, it also reflects any money that you as an owner or shareholder have drawn out for personal use.
Obviously, this is the 10,000-foot view of the financial statements, but the most important thing to remember is to look at your financials regularly. They should be part of your daily, weekly or monthly routine. Waiting until year end is simply too long, as it may be too late to fix any errors. And, the more you review them, the better you will get at spotting errors and understanding what helps your business succeed.
Michele Knight, owner of Knight Accounting & Technology, is a CPA and QuickBooks ProAdvisor based in Dillon. For more info and to contact her, visit www.cpamichele.com.