Kathy Drungilas
A friend recently said, “I have a small, home-based business so I don’t need, or even understand, why I need a financial report. I buy items and resell them for a profit. It’s pretty simple. I made over $900 last month!”
“Great!” I said but knew to ask a few simple questions. “How much did you spend on your business last month?” “Well, I bought $350 worth of product and have a couple receipts at home, but that is $550 profit,” said my friend.
“Do you pay any licensing fees, purchase product catalogs, or have a website? Do you collect sales tax from your buyers?” My friend answered, “Yes, all of those, so maybe I didn’t make $350?”
Every business, even the smallest, needs a good system to track bank accounts, income, expenses, owner investment, inventory costs – all the money going into and out of the business. Many small business owners believe all they need is a spreadsheet and a shoebox, but that doesn’t tell them the whole financial picture. The primary objective of financial reporting is to provide useful information for decision making.
So, what financial reports do you really need and why?
A small business really needs only two reports if you want to continue as a small business. Other reports may be necessary for investors, creditors, shareholders, government agencies, or others. If your intent is to remain small organizationally, without employees or loans, for example, you can get by with just an Income Statement and a Balance Sheet.
Sometimes called the profit and loss (P&L) statement, the income statement shows you money coming in the door (revenue), money going out the door (expenses), and what’s left over afterward (income, or profit). The income statement is important because you can use it along with the balance sheet to calculate the return you are earning on your business.
By looking at the gross profit (which is the difference between revenue generated by the sale of a product or service and the cost of making the product or providing the service) relative to sales across several time periods, a business owner can identify when cost increases are outpacing revenue gains, for example. Your review of gross profit might prompt you to re-negotiate prices with suppliers or eliminate inefficiencies in production.
The balance sheet provides a snapshot in time of what is owned (assets), what is owed (liabilities), and what is left over (net worth or book value). A balance sheet is a key tool in learning to manage your overall risk, to achieve your financial dreams, and to avoid mistakes that can set you back in attaining your goals.
If your small business needs help understanding or creating financial reports, give Drungilas Consulting a call for a consultation.