Understand your financial statements

Reading financial statements is crucial for understanding your business's financial health. Here's a simple guide to help you navigate them:

  1. Balance Sheet

This provides a snapshot of what your business owns and owes at a specific moment.

  • Assets: What the business owns (e.g., cash, inventory, equipment). Assets are divided into current (convertible to cash within a year) and non-current (long-term).

  • Liabilities: What the business owes (e.g., loans, accounts payable). Like assets, these are classified as current (due within a year) or non-current.

  • Equity: This is the owner's stake in the business. It's calculated as Assets – Liabilities. Positive equity means your business has more assets than debts, while negative equity is a red flag.

2. Income Statement (Profit & Loss Statement)

This shows how much money the business made or lost over a period of time (monthly, quarterly, annually).

  • Revenue (Sales): Total income from your products or services.

  • Cost of Goods Sold (COGS): The direct costs of producing goods sold (like materials and labor).

  • Gross Profit: Revenue minus COGS. It shows how efficiently you're producing and selling your products.

  • Operating Expenses: Overhead costs such as rent, salaries, utilities, and marketing.

  • Net Profit: This is your bottom line. It's calculated as Gross Profit – Operating Expenses. If positive, you're making money; if negative, you're operating at a loss.

Key Tips for Reading Financial Statements:

  • Compare periods: Look at trends over time to see if you're improving.

  • Check ratios: Quick checks like profit margins (Net Profit/Revenue) or the current ratio (Current Assets/Current Liabilities) help assess business health.

  • Understand cash vs. profit: Just because you're profitable doesn’t mean you have cash on hand, and vice versa.

By regularly reviewing these statements, you can make informed decisions about spending, saving, and investing in your business.

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