While Cash Flow control should be a daily management discipline, management of Profit, Loss & Equity management is also vital to your business success. By running appropriate reports on a regular basis, you can identify to your management and investors how well the business is building value. Such reports are also critical to potential investors. The key financial reports you should become familiar with are ones you already developed once during your business planning process. When you developed financial projections of anticipated revenues, costs, expenses and the resulting profits, you created a projected “Profit and Loss” (P&L) statement, also known as the “Income” statement. You also created a pro forma “Balance Sheet.” The balance sheet is a vital tool that summarizes business valuation at a given moment of time. Both of these reporting tools are easy to prepare if you adhere religiously to good bookkeeping and accounting practices.
The Profit & Loss Statement (P&L)
The P&L is a concise summary of your income minus your expenses for a given period of time such as a month, quarter, or year. If you are logging all of your income as it is received and your expenses as you pay them, you can easily generate a monthly P&L to determine whether you made or lost money during the period.
The P&L groups variable costs separately from fixed costs. Variable costs are those connected directly with the production of your product and so vary with the amount of product produced. They include raw materials plus shipping or other costs directly connected with the products produced or services delivered. They may also include allocations for labor and for depreciation of equipment used in producing the goods.
Good accounting programs for business have P&L reporting available as an easy-to-use template so you can readily generate reports for whatever time periods you need, often with comparative reports for prior time periods.
The Balance Sheet
The balance sheet provides a snapshot of your business value at a particular moment in time. As with the P&L, you should generate a new Balance Sheet once a month, as well as quarterly and annually.
The Balance Sheet reports three key measures of worth:
- Assets. This includes current assets (those that can be converted to cash within a year) and capital assets, such as land, buildings, equipment and other tangible items. Most capital assets lose value as they age and so are reduced in value over time by depreciation expense deductions in your balance sheet. Other assets that are difficult to value may not be reflected in the balance sheet at all; these include intangibles such as goodwill and intellectual property.
- Liabilities. These include all amounts you owe to others, from current accounts (accounts payable, rent, payroll, and unpaid taxes) to longer-term liabilities such as mortgages and loans due more than one year from the date of the balance sheet.
- Equity. Subtracting Liabilities from Assets leaves you with equity – the net worth of the business. This is the value due to the owners if you were to liquidate the business today. It includes capital contributions (owner advances to the business and stocks issued) and retained earnings (the total of all profits since the beginning of the business that haven’t been paid out to the owner(s)).
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