Preparing Financial Statements

Understanding financial statements is essential to the success of a small business. They can be used as a road map to steer you in the right direction and help you avoid costly breakdowns. Financial statements have a value that goes far beyond preparing tax returns or applying for loans.  

The balance sheet is a snapshot of your business financials. It includes assets, and liabilities and net worth. The "bottom line" of a balance sheet must always include (assets = liabilities + net worth). 

The individual elements of a balance sheet change from day to day and reflect the activities of a business. Analyzing how the balance sheet changes over time will reveal important financial information about a business. It can help you can monitor your ability to collect revenues, manage your inventory, and assess your ability to satisfy creditors and stockholders.

Liabilities and net worth on the balance sheet represent sources of funds. Liabilities and net worth are composed of creditors and investors who have provided cash or its equivalent to your business. As a source of funds, they enable your business to continue or expand operations.

Assets represent the use of funds. A business uses cash or other funds provided by the creditor/investor to acquire assets. Assets include things of value that are owned or due to a business.

Liabilities represent obligations to creditors while net worth represents the owner's investment in the business. Both creditors and owners are "investors" in the business with the only difference being the timeframe in which they expect repayment.