25 Jul MANAGING YOUR BALANCE SHEET PROPERLY
So now we know… there are two kinds of financial statements…the one that everyone loves better known as the Income Statement and the one that no one ever really pays attention to better known as the Balance Sheet. But we also now know that both of them are critical to making financial decisions when running a successful business
I have tried over the years to convert our clients from loving the Income Statement as much as they do to loving their Balance Sheet more – needless to say up to this point I have had very limited success. Which is completely understandable since the Income Statement does focus on what so many business owners believes is more crucial than anything – how much money did they make and how much did they spend.
But yet if you want to do anything with your business or within your business – grow, hire new employees, purchase new equipment, make a new investment, purchase another business, and on and on and on …your Balance Sheet is where it’s at!
If you personally or if you are having someone else look at your business they will want to know where it stands financially – how do they do this? Ratios! Why do they use ratios – because they are a great way to quickly evaluate a business using the same standards over and over, while having the ability to compare the results to industry standard ratios. The answers are not taken lightly – they can bring you what want or send you packing!
So what are some of the ratios used:
- Current Ratio – can your company pay its short-term debt
- Quick Ratio – can your company pay its short-term debt with its most liquid assets
- Accounts Receivable Turnover – how efficiently does your company use its assets
Take a moment and look at what these ratios are asking for.
Do the numbers come from your Income Statement? No.
They come from your Balance Sheet.
What Does This Mean
Very clearly it means that you need to be paying closer attention to the numbers on your Balance Sheet. Just as you are doing with your Income Statement; know the accounts being used on your Balance Sheet. Become very close with the accounts – know when a payment is made that the account balance should be decreasing, know when a payment is made that your bank account balance should also be decreasing, know when you completed a job that your Accounts Receivables (if not paid immediately) should be increasing, and know when you order equipment that your Accounts Payable should be increasing. Know the flow of your accounts – there is a constant flow.
Improper account usage can be more detrimental on your Balance Sheet than anywhere else. In particularly the use of your Short Term and Long Term loans. I have worked with clients that were logging all of their payments to their short term loans to the long term loans – resulting in their Balance Sheet reflecting that they never made payments on their short term debt. When working with banks, banks do not look very kindly on businesses not paying their debts – so they were promptly rejected for a loan. No reason just a rejection. After working together and reviewing account usage on their Balance Sheet it was very clear to both of us what had occurred and how it could be remedied, resulting in the loan approval.
As stated in my blog Truth and Consequences for Financials your chart of accounts and proper use of the accounts is critical for your Income Statement – your Balance Sheet isn’t any different.
You should be just as close to your Balance Sheet as you are to your Income Statement. Knowing the accounts, their usage and the flow is an incredible management tool that has always been there but so few actually embrace.
Applied Management Group is here to assist you in creating the accounting process that works for you and your business. From what type of accounting, to your accounting basis, to creating your chart of accounts, to refining the use of your accounts, to creating a departmentalized Income Statement, to your Income Statement and now to the proper usage of your Balance Sheet. Applied Management Group is here for you with our mentoring and training.