If you’re going to invest in a business, you need to make sure that the business model is sound and that the business is profitable for years to come.
For business owners, financial statements are necessary in order to get a loan or convince your business is on solid footing.
Most businesses close because business owners don’t understand financial reports. They don’t have a way to manage cash flow, and they can no longer operate.
You can avoid that by knowing the types of financial statements. Read on to learn what the important financial statements are and what they’ll do for you as an investor or business owner.
Balance sheets are all about a company’s financial risk. In the worst-case scenarios, does the company have more assets than liabilities?
An asset is something of value that belongs to the business. Intellectual property, equipment, and inventory are all examples of assets.
Liabilities are things like debts and taxes. It’s money that the business owes to others. A healthy company will have assets that outweigh the liabilities.
The important thing to remember about a balance sheet is that it will change often. Treat it like a snapshot of a company’s assets and liabilities.
The income statement is often referred to as a profit and loss statement. This will tell you how much money is going in versus going out. These can be produced monthly, quarterly, or annually.
It sounds very simple, but these can be complicated to produce and read. Most people look at the bottom line, of the statement. That tells you if a company made money for the period or not.
However, the real story is between the lines, especially when you start to compare income statements from previous periods. You’ll be able to see if the company is trending upward or downward.
Start at the top of the income statement. The first few lines are dedicated to the revenue of the company. This will be gross revenue from products and/or services.
After the sales will be the COGS or cost of goods sold. This number shows you how much it cost to make the product or deliver the service. For example, if you’re producing a product, the raw materials would be part of COGS.
Underneath that, you’ll find a line that shows how much the company doesn’t expect to see due to discounts or returns. This is telling because you’ll be able to tell if a business is relying on discounts for sales or if there is a big problem with the quality of the product.
Next are the expenses. These are usually operating expenses, such as employees, property leases, utility bills, marketing, etc.
After you subtract the expenses from the gross sales, you’ll arrive at the operating profit. This is before you account for taxes and interest income.
Now, you can get to the bottom line and really understand how a company’s doing.
Cash Flow Statements
For small businesses that operate on a thin margin, a cash flow statement can be scary to look at because you’re just getting by each month.
This is different from a profit and loss statement because that just tells you if a company made money during a certain period of time or not.
Cash flow statements tell you if a company has cash on hand and how that cash was generated. The more cash a company has on hand, the more stable it is.
It will be able to withstand the lean times and still be able to pay for operating expenses without much trouble.
A company with little cash on hand will suffer, as we’re starting to see with the coronavirus outbreak in the UK and around the world.
10-K and 10-Q Reports
If you are thinking about investing in a publicly-traded company, you have to do your research. You can’t listen to the so-called investment gurus online and on TV.
The best place to start your research is to look at a company’s financial performance over the last quarter and the last year.
This financial reporting refers to the fact that publicly traded companies are required by the Securities Exchange Commission to file a 10-Q earnings and financial report each quarter. A 10-K report is filed in the fourth quarter of every year.
These documents are crucial to help you understand the health of a business. A 10-K will be a long, in-depth document that outlines everything you need to know about the company.
You’ll get the history of the company, information about the leadership of the company, and the risks and competitive nature of the business. You’ll also find an array of financial statements, like the ones mentioned here.
Balance sheets, cash flow statements, and other financial documents are included. The 10-K document will give you more information than the 10-Q document. It’s also audited before filed, where the 10-Q usually isn’t.
Understanding the Types of Financial Statements
Whether you run a business or want to invest in one, you have to make smart decisions. These decisions depend on the financial health of a business.
The only way to really know what’s happening financially in business is to learn what the types of financial statements are and how to read them.
The most important statements you should know are income statements, cash flow statements, and balance sheets.
Each one will give you a slightly different story, but together they will give you a good picture of a company’s finances. If you’re looking to invest in a publicly-traded company, don’t overlook a company’s 10-K and 10-Q statements.
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