Bankrupt Proof Your Business: Do You Know Your Business Numbers!!!
The Bookkeeper will keep the numbers!!! The Accountant will balance the numbers!!!
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As a small business owner, it is very imperative that you have a general understanding of your business finances. It is advisable to have the following Financial Dream Team when it comes to one’s business finances:
· Accountant: He/she will assist you with ensuring that your business finances are up to date; how much the business will pay in taxes yearly; when taxes should be paid; and setting up an accounting method- set of rules used to determine when and how income expenses are reported.
· Bookkeeper: He/she will assist you with setting up a system that will ensure that you keep track of your business finances on a daily and monthly basis. There are two types of bookkeeping systems that a small business owner can use to keep a daily track of their business finances.
1. Single-entry bookkeeping system: Based on the income statement (profit and loss statement). This is the best bookkeeping system to use for a start-up business. The system records the flow of income and expenses by using the following: a. Daily summary of cash receipts; and b. Monthly summaries of cash receipts and disbursements.
2. Double-entry bookkeeping system: This system uses ledgers and journals. Transactions are first placed into a journal and then recorded into ledger accounts. These accounts will show the following: income; assets; expenses; liabilities; and net worth.
It is very important to have an accountant and bookkeeper to assist one with maintaining your business finances. The accountant will ensure that everything is in order on a yearly basis regarding your finances and taxes. The bookkeeper ensures that your daily expenses and daily finances are in order. Just remember: Accountant for yearly and past expenses; and Bookkeeper for daily and future expenses. So, you must have your "Financial Dream Team" (accountant and bookkeeper) to keep the “Business Books”. The "Financial Dream Team" can keep your business out of tax, financial, and legal trouble.
When a small business does not have the “Financial Dream Team”, the business runs the risk of failing financially due to not keeping the “Business Books” balanced. As a small business owner, you must know whether your business is making money or not. If, the business is not making money, the business owner must decide whether to stay in business or close it. But, if the owner has a grasp of the business finances, they will be able to take precautionary steps to keep their business afloat and keep the doors open. With the right “Financial Dream Team”, the business owner can decide what needs to be done to stay in business financially or when to close it.
The “Financial Dream Team” (accountant and bookkeeper) will ensure that the business owner has a general understanding of the following financial terms:
1. Accounting: the system of measurement and reporting of the economic and financial events to make important decisions regarding the business finances.
2. Bookkeeping: the process of recording business transactions into ledgers or journals.
3. Business Finance: the process of reporting and planning of how money is used, acquired, spent, and saved in one’s business.
4. Working Capital also known as (WC). The formula for WC is Current Assets – Current Liabilities = current capital or net current assets. It measures the business’ ability to finance current operations.
5. Start-up Funds: the money and collateral needed to start one’s small business. It is always advisable to have at least 6 months of money saved up when starting a business.
6. Accounting Records: the financial information of the business used to keep track of the financial status of the business on a daily, monthly, or yearly basis.
7. Financial Records: includes the following financial statements of the business- balance sheet and profit & loss statement. These two statements are the basis for all analyses of the business finances that are used by bankers and investors to make investment decisions and make loan evaluations.
8. Ratio analysis: These indicators help the owner determine the health of several financial aspects of the business. These indicators help the entrepreneur to determine the strengths and weaknesses in the business financial operations. They also help the business owner know how to and where to develop better performance in the business finances.
9. Profitability measures: These measures helps the business owner obtain the following information: a. how much money the business is making; b. whether the business is making enough money to survive; and c. if the business is making any money at all.
Here are the basic profitability measures:
· Asset Earning Power: this is determined by the ratio of earnings before interest and taxes to total assets.
· Return on the Owner’s Equity: this states the return received by the owner in exchange for their investment in the business.
· Net Profit on Sales: This ratio determines the difference between what the business takes in and what the business spends in the daily process of conducting business.
· Investment Turnover: This is the annual net sales to the total assets.
· Return on Investment: This ratio helps the business owner to determine how to price their products and services. Also, known as ROI.
10. Break-even analysis: This process helps to determine the ultimate success of any product, service, or project before you introduce it to the public. The break-even analysis will provide the business owner with the following information:
· How much merchandise the business must sell to start making money?
· The profit level of the business at any given level of sales.
· How profitability of the business can be affected by price changes?
· How profitability of the business can be affected by different types of expense reductions?
11. Credit: This accounting entry either increases a liability or decreases an asset.
12. Record-keeping system: This is the technique used by small businesses to keep track of their finances. Here are the basic requirements of a good record-keeping system:
· The system that you choose for the business should be easy to use and to understand.
· The system must be very accurate and relevant to the business. Accurate means that the record keeping system should not have any errors and conform to whatever standards you have set for the system. Relevant means important to your business.
· The record keeping system should be consistent regarding the standards and structure decided on for the system.
· The system should keep the records in a timely fashion and should always be current.
13. Sales Records: These records determine how much money the business is making from selling goods or services. The sales records should be divided into categories to be ability to analyze the sales more easily.
14. Cash Receipts: These are receipts of cash purchases that were received from selling goods or services and includes collection of accounts receivable from monies owed to the business.
15. Cash Disbursements: These are the monies that the business pays out and it is always good to make payments by check. These normally cover bills and regular expenses that the business accrues on a regular basis.
16. Accounts Receivable: These are the monies owed to the business for services or goods supplied to customers that you have not received payment for yet.
17. Financial Statements: This written report shows the financial health of the small business. Here are the basic statements used to determine the financial health of the small business:
· Balance Sheet: This financial statement gives the owner a snapshot value of the business at a point in time. It is like personal financial statements.
· Income Statement Sheet: This determines how profitable the small business is. The statement matches all the costs/expenses with the revenue/business income to show if the small business is making a profit.
· Cash Flow Statement Sheet: This statement helps the business owner know how much cash is necessary, when the cash is needed, and where the cash comes from.
18. Profit and Loss: Another name for the Income Statement that measures the expenses and costs against the sales revenues over a certain period. This helps to display the small business’ net profit or loss for the entire period covered by the statement.
19. Assets: anything owned by the business-like equipment, inventory, and goods.
20. Expenditures: All the expenses and liabilities the small business accrues over a certain period.
21. Equity: The entrepreneur’s ownership value in the small business.
These are just a few of the accounting terms that every business owner should know when it comes to their business finances. When a business owner works with their “Financial Dream Team”, the business is financially sustainable and profitable.
The business owner needs to play an active role, with their “Financial Dream Team”, in keeping one’s business finance records current. The accountant and bookkeeper are there to assist the business owner with keeping the business finance records in order.
The most valuable asset that a small business owner can add to their business is the “Financial Dream Team” to keep the “Business Books” balanced and avoid being audited by the IRS!!!
Sources: 1. Small Business Trends and Entrepreneurship: How Entrepreneurs Are Reshaping the Economy and What You Can Learn from Them by The Editors of Business Week (1995 McGraw-Hill, Inc.)
2.The Entrepreneur & Small Business Problem Solver by William A. Cohen (2006 3rd Edition, John Wiley & Sons, Inc.)
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