FROM THE SUCCESS PEOPLETM
Your Guide to Balance Sheet Analysis
Balance sheet analysis is critical to a healthy cash flow and forecasting for your business. It’ll help you find out where your money is really going – and how to better manage it.
Even if you outsource your business financial management to an external chartered accountant, having a good idea of your monthly, quarterly, and annual balance sheet will keep you in the loop so you can make well-informed decisions.
Your balance sheet is a snapshot of your business’ financial health at any point in time. It’s a vital tool for investors, who want to know how your business is currently doing rather than what last year’s income report says. It pays to know how to present vital financial information to potential business development partners.
Five Steps to Understanding Balance Sheet Analysis
Learn the basics of balance sheet analysis and improve the financial health of your business with these five tips…
1. Know Your Assets and Liabilities
Whether you’re a small bootstrap-startup or a large multinational conglomerate, your balance sheet will always have the same format: assets and liabilities.
An asset is a positive balance, while a liability is a negative balance. For example, an office block you own outright is an asset, but a business loan you took to start up the business is a liability.
2. Current and Non-Current Assets
A current asset is something that represents ready access to cash. For example, savings in the bank or existing stock inventories are current assets.
A non-current or fixed asset is something that couldn’t easily transform into cash, such as property or equipment.
If you’re seeking investment in your business pay close attention to the current assets on your balance sheet. Investors love to see a lot of ready cash already in the business, such as existing positive bank balances or lots of products in stock.
Current assets are appealing to investors as it shows strong company growth and a buffer to push through tougher times of the year without financial difficulty.
3. Reading Your Liabilities
You’ll see two types of liabilities on your balance sheet: long-term and current.
A current liability is due to be paid within the financial year. This could be accounts payable to suppliers, or a portion of long-term debt repayments due within the month or year.
A long-term liability is just that: something which needs to be repaid over a longer period of time than the balance sheet covers. A mortgage on your business premises is a long-term liability, for example, as are deferred tax payments.
4. Understanding Receivables
Receivables are payments that customers owe your business. A large amount on the receivables section of your balance sheet reflects financial inefficiency. The longer it takes your business to chase up and collect money owed, the less efficient your processes are.
This is a great example of how to use balance sheet analysis on a monthly or quarterly basis to improve your business processes. You’ll be able to see your financial health at a glance: if a pattern of excessive levels of receivables comes up, it’s time to reassess your processes, staff training, or customer requirements.
5. Shareholder’s Equity
Your balance sheet needs to be equal, which it won’t be if you’re only looking at assets and liabilities. To make your financial ‘in and outs’ balance out remember to list shareholder or founder equity, too.
This is any amount of financial investment that has been put into the business, or re-invested post-tax profits.
The rule to remember is that assets must equal total liabilities plus equity, so if these aren’t adding up with your balance sheet analysis it’s time to delve deeper into your business financials.
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