Accurate, timely financial statements are critical to all aspects of business, from day-to-day operations to informing major decisions. Yet even the most thorough financial documents are of little benefit if you don’t understand how to read and interpret them.
Developing the skills needed to decipher your financial statements was the focus of discussion at our most recent Exit Planning Peer Advisory Board meeting. We welcomed our guest speaker, Rick Athur, CFO, who shared his expertise in what he calls “Financial Intelligence”. He asserts that your financial statements are to your business what your bloodwork is to your physical health. We’d like to pass along some of the basics.
Essential Financial Documents
Your financial statements serve as a report card that provides critical insights into your company’s financial health and reflects how your business is performing financially. The data these documents provide can guide stakeholders like managers, investors, and creditors in making informed decisions, strategic planning, and regulatory compliance.
The essential documents include the following:
- Balance Sheet = Financial Position
- A snapshot in time of the current financial status of your business including current assets and liabilities which determine working capital.
- Cumulative from the beginning of business, it shows what the company owns (assets) and owes (liabilities), and the owner’s equity.
- Also referred to as Statement of Financial Position.
- Income Statement = Profitability
- A “moving picture” of what has occurred financially in your business over a defined period and compares budget to actual.
- It reflects total income from business operations, cost of goods sold/cost of services, gross profit, operating expenses, operating income, and net income.
- Also referred to as Profit & Loss Statement (P&L).
- Statement of Cash Flow = Liquidity
- Provides aggregate data regarding all cash inflows and outflows from ongoing operations and external investments and reflects net cash increase or decrease for a specific period as well as free cash flow.
- Illustrates operating activities, investing activities, and cash from borrowing, issuing stock or paying dividends.
- It is often excluded from financial statements of small, closely held businesses but is a valuable tool for planning cash flow, driven by comprehensive financial modeling, for businesses of any size.
Applying Financial Data
An understanding of your essential financial statements and the ability to interpret them keeps you in touch with the financial status of your business and provides data to inform decision-making. The ability to converse with a lender about your financial position is also important should you need to secure credit. And should you plan to sell your business upon your exit, or for any other reason, your prospective buyer will review and dissect your financial statements as part of his or her due diligence process. They’ll want the assurance that the business can generate adequate cash flow to return the purchase price over a specific period. Assessing financial statements may also reveal opportunities to cut expenses and improve profitability, cash flow, and company value.
When the Buck Stops with You
As a business owner, you are not likely the individual in your organization who is primarily responsible for finance and accounting. But since the buck eventually stops with you, a thorough understanding of financial statements is essential.
I’d welcome the opportunity to review your financial processes and help you gain confidence that your financial statements are thorough, accurate, timely – and that you are able to use the data they produce to optimize the success of your company.
Contact me to schedule a complimentary consultation. Also ask me about our Exit Planning Peer Advisory Board – a great way to build your business and your future.
Bob Zarlengo is a certified exit strategist and CPA. More than four decades of experience in public accounting, expertise in financial reporting, income and estate planning, and tax compliance makes him a valued and trusted advisor to his clients.