SCORE: Balance sheet takes businesses' blood pressure
In this series of columns on "knowing your business numbers", I have tried to stick to the basics.
Assets and liabilities are the Yin and Yang of your business. Assets are your "pluses," the things your business owns and is owed. For example, cash, real estate, inventory, accounts due, other property like patents or trademarks, and prepaid expenses (costs that are paid in advance such as taxes and insurance). Long-term assets such as buildings, equipment, or property that are not expected to be converted to cash are known as fixed assets.
Liabilities are your "minuses," the business obligations or things that are owed. For example, tax payments, repayments to investors, money owed to banks. Also included in the liabilities column (although they're not actually liabilities ) are owners' equity (the amount invested by the owners in the business).
The next logical question is how do assets and liabilities apply to my business? In order to answer that question an understanding of a balance sheet is a must.
A balance sheet is commonly required when you seek funding or loans. Think of it as taking your business's blood pressure.
If you use a software accounting program (as I recommended in my last column), generating a balance sheet is just a matter of a few mouse clicks. A balance sheet adds up the assets and liabilities in two separate columns. As the name implies, the columns must balance, that is they should equal each other.
This report tool gives you a picture of certain very important elements of your business. As the name implies, it shows the balance between what your business owns and what it owes.
Outside of sales revenue, the two common ways that cash comes into a business are equity and debt (investments and loans). Equity is the money or property invested and retained in the business by the owners (also sometimes referred to as 'owners' equity').
Debt includes the loans, lines of credit and other borrowing you've done and represents money that must be repaid usually with interest over a fixed period of time. If you don't properly manage debts the lender will foreclose on the loan, sometimes leading to a business bankruptcy.
Accounts Receivable are amounts you are owed from sales of your products or services. Some retail businesses, since they receive payment immediately, have little or no accounts receivable.
Accounts Payableare amounts you owe to vendors and suppliers, as well as any other short-term bills, such as payments for inventory, supplies or other goods or services. Loans and similar interest-bearing debts are not included inaccounts payable.
Monitoring receivables and payables is a key element in cash flow management. As a general rule, your cash flow is stretched the longer you must wait for your accounts receivables. Conversely, you'll generally have less cash on hand if you pay bills (accounts payable) before they are due.