Small Business Finance: What is a Balance Sheet?

If you're a small business owner, financial terms like "balance sheet" may seem intimidating. But understanding what this and other financial concepts mean is critical to making sound decisions about your business. This guide will break down a balance sheet and how it is used. Armed with this knowledge, you'll be better equipped to make smart choices for your company's future.

What Is A Balance Sheet, And What Does It Show?

A balance sheet is one of the three financial statements that small businesses use to provide information about their financial health. It shows a company's assets, liabilities, and equity at a given point in time. 

Assets

Assets are everything that a company owns and can use to generate revenue. This includes cash, inventory, equipment, buildings, and vehicles.

Liabilities

Liabilities are everything that a company owes, including money owed to suppliers, loans from lenders, and taxes owed to the government.

Equity

Equity is the small business owner's investment in the company and any retained earnings from previous years.

This information can be used to assess whether a company has enough resources to meet its financial obligations and to identify trends over time.

How Do You Calculate Total Assets And Liabilities On A Balance Sheet?

Your balance sheet will list all of your assets and liabilities; from this, you can calculate your total assets and liabilities.

To find your total assets, simply add up the value of all your assets. To find your total liabilities, add up the value of all your liabilities. Your total assets minus your total liabilities will give you your company's net worth. By regularly monitoring your total assets and liabilities, you can clearly understand your company's financial health and make informed decisions about its future.

Key Items Lenders Look At On A Company's Balance Sheet When Making Lending Decisions

When small businesses go to banks or other lenders for loans, the decision-makers will often ask to see the business's balance sheet. This document can provide a snapshot of the company's financial health and give clues as to whether or not it is a good risk. Some of the key things to look for include the following:

The Amount Of Cash On Hand

This indicates whether or not the company will have trouble making loan payments in the event of a slow period.

Accounts Receivable

This is money that is owed to the company by its customers. A high amount could indicate that customers are taking a long time to pay their invoices, which could be a sign of financial trouble.

Inventory

This is a valuable asset but can also tie up a lot of cash. Too much inventory could be a sign that the company is having trouble selling its products.

Accounts Payable

This is money that the company owes to its suppliers. A high amount could indicate that the company is having difficulty paying its bills.

By looking at these key items on the balance sheet, lenders can better understand whether a small business is a good risk.

Using Your Balance Sheet To Make Better Financial Decisions 

By reviewing the balance sheet on a regular basis, small business owners can make informed decisions about how to allocate their resources. For example, if the balance sheet shows that the business has a high level of debt, the owner may want to focus on paying down that debt rather than investing in new equipment.

Or, if the equity section is low, the owner may want to consider ways to increase revenue or decrease expenses. Understanding how to read and interpret a balance sheet is an important step in making sound financial decisions for any small business.

Common Mistakes Businesses Make With Their Balance Sheets

One common mistake businesses make with their balance sheets is failing to keep track of small expenses. These small expenses can add up quickly and eat into profits. As a result, it is important to keep careful records of all income and expenditures.

Another mistake businesses sometimes make is failing to include all liabilities when calculating the total amount owed. This can lead to an inaccurate picture of the company's financial health and make it difficult to obtain new loans or lines of credit.

Finally, businesses should be sure to update their balance sheets on a regular basis. This will help ensure that the information is accurate and reflects any changes in the company's financial situation. By avoiding these common mistakes, businesses can maintain a healthy balance sheet and keep their finances on track.

How Can You Improve Your Business's Balance Sheet?

There are a few key ways that you can improve your business's balance sheet. First, focus on increasing your assets. This can be done by ensuring that inventory is properly managed and by investing in long-term assets such as property or equipment.

Another way to improve your balance sheet is to reduce your liabilities. This can be accomplished by paying down debts and carefully managing expenses. Finally, you can also increase your equity by reinvesting profits into the business. By taking steps to improve your business's balance sheet, you can ensure that your company is on solid financial footing, which can help when trying to obtain additional capital.