Small businesses must be well acquainted to survive in a competitive environment and 1 of the vital competency they must happen is to read and understand important economic statements. Learning essential financial records such as ‘Trial Balance’, ‘Balance Sheet’, & ‘Profit and Loss’ statements is eminent as these are very serious reports for little businesses to secure their competitiveness in the business.
Operating a business without knowing these financial statements is like driving a car without a dashboard. Let’s view into each of these business records in detail..
3 Important Financial Statements Every Business Owner Should Know
In this article, you can know about important financial statements here are the details below;
Businesses interested in financial projects need constant knowledge on a variety of parameters such as business demand, market percentage, price, aggressive activity, cost of production, finance, cost of capital, and statutory levies. Of these, 1 of the most vital one is business information such as revenues, costs, capital, wages, loans and grants. If you take an instance of a household, data on items such as salary received by the principal wage earner, expenses caught on running the home, school fees and price of herbs would be some of the knowledge needed on a regular basis and this would constitute financial data.
One of the methods of handling and storing financial data is the double entry method where for every amount of money bought there will be a debit entry in one story and a credit entry in different account. All the accounts will each have a credit balance and a debit balance.
In order to guarantee that the data entered is correctly done and stored, controllers use a tool identified as the trial balance. The trial balance will enable the accountant to prepare the data that can later be utilised for generating significant financial statements such as the balance sheet & the profit and loss account (also known as the income statement).
These two statements are supposed to be the most important financial statements for a class of people interested in any business or organisation. For example, one could be an investor wanting to invest in the company. One could be a supplier needing to supply goods and services. One could be a donor who has leant business to the business and wants to know if the business is doing well rather to repay the loan taken.
The balance sheet is the economic state of affairs of a business on any given day, usually the last date of the financial year (typically March 31 each year in case of India). It gives an authentic picture of the company on that particular day in financial terms described by assets, liabilities and equity. In the house example, the family can take stock of the year gone by and plan to balance the stories either by borrowing if there is a shortage or by keeping if there is an excess.
The profit and loss account is the financial state of affairs of a business for a given period normally a financial year encapsulated in the form of either a profit or loss for the company. Typically, businesses make a profit and loss account for a quarter or even a period to help the organization assess its production vis-à-vis objectives set. In the household model, the family tends to make a profit & loss statement each month coinciding with the release of salary for the month.
Based on the primary financial statements of the company people can come to conclusions about the economic health of the company & take steps to engage with that business. Furthermore, these statements are among the more valuable reports for small companies to project themselves in the business.
What is Trial Balance
In an accounting system based on the second entry method, any expenses acquired would be posted as a debit in one story and a credit in another account. Furthermore, any money collected will also receive the same treatment. Once the season is over and all records made, a trial balance will be provided. This will be the summation of all common ledger accounts.
At the end of the time (one year) for which the trial balance is generated, all reports will show a credit balance or a debit balance depending on the number of transactions posted to each account. When the scales are listed out it will show whether the total of all debits is similar to the total of all credits. If they don’t tally then an examination could reveal an error and the same can be improved (that is why it is called a trial balance). The trial balance will also improve tracing any arithmetical mistakes or wrong entries.
After correcting the errors in such a way that the credits and debits are equal the trial balance will be applied to prepare meaningful financial statements, more particularly the balance sheet & the profit and loss statement.
The trial balance is an internal report and it is meant only for business leaders and internal auditors.
What Is A Balance Sheet
The balance sheet provides the financial state of affairs of a business as on a particular day in connection to the liabilities, assets & capital going to a company. Just as a photograph takes a moment the balance sheet captures the appearance of the company as on a particular day.
Lets look at the different parts of a balance sheet.
Typically, the accounts side of the balance sheet covers items such as share capital, resources and surplus, secured & unsecured loans and current accounts & provisions.
For instance, a making company would need money to buy equipment that produces goods. It would need funds to pay wages for manpower. The funds would come from the buyers and this is connected to as money (equity).
Secured and Unsecured Loans
If their capital is not enough then they would borrow from lending agencies or seek investors. These financings could be in the form of secured loans also unsecured loans. When investments such as debentures or bank loans are provided against the asset of a group they are known as secured loans. When loans or credits are given without security of company’s asset they are recognized as unsecured credits.
Current liabilities are payments owed by the business to suppliers, vendors, architects or consultants which want to be paid indoors the financial year and are normally paid out of current assets of the company. These include amongst others sundry creditors, charges increased and loan amounts.
Reserves and surplus
Reserves & surplus are profits that are held by the business without distributing it to buyers of equity.
Provisions are undetermined possibilities such as earnings, taxes and contingencies caught in the financial year which are given for to be paid at a next date.
The assets top of the balance sheet covers items before-mentioned as fixed assets, expenses, current assets, different expenses and debit balance of profit & loss account.
Fixed assets are tangible assets (valuable items held by the company) such as land and building, machinery, furniture and fittings & transport vehicles, cash, stocks of manufactured goods & money to be received which it uses to manufacture goods or render services and earn revenue by selling the goods or assistance.
Investments in real estate, securities and assets that the company plans to hold for longer than a year are held as assets on the balance sheet.
Popular assets are short-term assets that can be turned into cash within the financial year. These cover stocks, raw stuff held, work in progress and values receivable (which are generally credit sale).
The balance layer (as the name suggests) should check out assets and liabilities sides of the financial statement.
The relationship between the three is a simple equation that can be written as follows:
Owner’s equity = Assets – Liabilities
Profit and Loss Statement
Since a company is run with particular purposes such as to earn profits it is important that its plans for a year are encapsulated into a report known as the income statement or a good and loss statement. Lets see wherewith to provide a Profit & Loss statement.
Profit or Loss
Profits can be made if revenues better costs or expenses. Conversely, if costs or costs exceed funds then losses are made. Hence, the profit and loss statement records the appearance of the company in the whole year and tells whether the business is financially healthy or not.
The profit & loss statement can be described with the following equation:
Profits = Revenue – Costs
In the above equation, results are typically sales revenue realised for products sold or services provided.
Costs are bifurcated into variable costs and fixed expenses. Variable expenses depend upon the selling of a product or assistance, rising with rise in sales or checking with decrease in traffic.
Fixed rates on the other hand stay fixed irrespective of sales achieved. For instance, rent for the office home, salaries for service staff and insurance costs fall under fixed expenses.
Gross profit is achieved by subtracting operating costs from operating revenue.
Operating income is taken by subtracting expenses from gross profit.
From the above sample image, it is clear that the Company has made a profit and the performance of the business is considered good. However, if there was no good but a loss then performance of the business would be regarded as not good.
From the foregoing it is seen that business data is very vital for a company to do well in the business. Financial information is taken and stored in an accounting system that supports a double entry method where a transaction begins twice, once on the credit side & once on the debit side. Based on the knowledge captured and stored trial balance is prepared which helps to guarantee that data is obtained and posted accurately. Consequently, profit and loss statement including balance sheet are generated, which are essential financial statements from which the health of a business can be gauged.
By learning to read these basic financial statements a multitude of information can be found by various stakeholders of the company which may include partners, investors, lenders, lay public, business analysts and other involved parties. These are great reports for small business to create so that it can showcase its offering to its stakeholders.
Financial reports help the managers of the business to understand their company better. Typically, administrators can prepare these 3 financial statements for every month or quarter so as to help them take corrective measures, if needed. Furthermore, these great reports for small business would help them to advance lenders or if they have previously borrowed to tell the banks of their appearance.