As a business owner or entrepreneur, it is crucial to have a solid understanding of accounting – the language of finance and business. One of the most important tasks in the industry is learning how to read financial statements when starting a business. Blindly investing money without understanding financial statements can lead to unwarranted risks. Therefore, it is essential to comprehend financial statements and use that knowledge to make informed decisions.
Over time, the business will expand, and transactions with other businesses, tax authorities, and customers will occur. Business bookkeeping needs to be counted and rechecked. These transactions of business and records are maintained using financial statements and accounting terms. The following three are the most important financial statements in business bookkeeping.
Income statement
The Income statement is divided into Sales and Expenses.
Sales include The selling of goods and services to the customers and getting monetary payments in return.
Expenses include purchases made on behalf of the business, employee salaries, bank loans that were received for investment or other purposes, and tax expenses that were paid as income taxes, etc.
Balance sheet
The balance sheet is a statement that summarizes all the financial transactions of a company or business in the past. It categorizes the company’s assets and liabilities. Assets include fixed assets, cash in the bank, raw materials, work in progress that will yield profit, finished goods, and even the value-added tax. Value-added tax is the amount of money that a tax authority owes to the company. Liabilities comprise the payments that have to be paid by the company, including the gross amount of money that has to be paid to suppliers and the value-added tax liability, which is the money paid to tax authorities for the sales that were done. Debt is the amount of money that the company has to pay to banks or other sources.
Cash flow statement
A cash flow statement shows the cash (money) that flows in and the money that flows out. A cash flow sheet includes the investing and the financing cash flow. Investing cash flow is the invested cash in the fixed assets in the business. The financing cash flow describes the money in cash from that which was either received from the investors or paid to the investors. A third but essential form of cash flow is “Operating cash flow.” It explains the money flowed in and flowed out to the running business.
These three cash flows are added, showing the change in the amount of cash.
Conclusion
The above three financial statements are interrelated. As the income and expenses statement increases, the assets and liabilities on the balance sheet will increase. The assets and liabilities will decrease as per the cash flows from the cash flow statement.
Knowledge regarding financial statement interpretation is essential for entrepreneurs. Entrepreneurs need to know important information in the credit analysis of their business. Investors/entrepreneurs must understand fully how accounting is done in businesses. Accounting is the language of business. But, learning the meaning of a few terms used in accounting is not enough. Entrepreneurs must understand the parts of the above-described financial statements. This will help the entrepreneurs determine the values of assets. They will be able to calculate profitability and also estimate the risks of the assets of the company. They can understand the company’s financing sources. Entrepreneurs must realize investment, credit analysis, and profitability.
Business owners/entrepreneurs can determine the debt and equity with accounting knowledge in business financing. The ability of entrepreneurs to identify debt and equity shows insight into the value of a company. Understanding the accounting statement is essential for running a successful business.
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