Business reports can be a bit of a mystery if you are not an Accountant.
Most people are more familiar with the profit and loss statement, also known as the income statement. The profit and loss statement shows how a company has performed over a given period of time, normally monthly, quarterly or financial year. This is a good scorecard to be checking throughout the year to see how your company is faring and compare previous periods, a budget or forecast targets to your actual performance.
On the other hand, the balance sheet shows a business’ financial health at a given single point in time. This is normally prepared at month end, at the end of a quarter or financial year.
The balance sheet tells you what things of value a company controls (the assets) and who owns those assets (the liabilities and owner’s equity). The balance sheet is broken down into these three areas and divided into current and long term amounts.
Assets are anything of value that your business owns. This includes assets that are financed and not technically owned by your company until the financing is fully paid. Both the asset purchased and the debt are added to the balance sheet.
Current assets will include your bank accounts, cash, accounts receivable, and inventory. These are classed as current assets because they are generally not kept for more than twelve months. Cash is received and spent regularly, accounts receivable should be collected within a reasonable period and inventory should move with each sale.
Long term assets have a life of more than one year. This will include fixed assets which are depreciated each year to reflect the estimated value at that point in time. Long term assets also include any investments held.
Liabilities are debts that your business owes to other people. This might be bank loans, credit card debt, amounts due to suppliers (accounts payable) and of course your compliance debts (PAYG and superannuation). You may see loans that are divided into current and long term liabilities.
Current liabilities will be items that are liable for payment within 12 months. This will include credit card debts, accounts payable, compliance liabilities and the next 12 months payments due on loans.
Long term liabilities are future obligations that are due in more than 12 months time.
Equity or owner’s equity represents the portion of the business assets that the owner or shareholders own free and clear. In short that means that if you were to liquidate all your assets to pay off all your debts, the owner’s equity is the amount that would be left over.
It is important to note, this is not necessarily how much your business is worth if you were to sell your business. Businesses are usually valued at a multiple of earnings rather than the owner’s equity.
Retained earnings are the lifetime to date profits and losses from the profit and loss statement and are a part of owner’s equity. This reflects the lifetime to date net profit and losses to the end of the previous financial year.
Current year earnings reflect the current year’s profit or loss amount and will match your profit and loss statement.
There are many business ratios that use these figures from your balance sheet and profit and loss to give you an idea of your business’ health. Xero has a few of these built in on the Business Performance report.