Cfo Services | Explaining Profit And Loss Statements
Owners need to make financial decisions in their business in between receiving their financial statements says CFO services. Because of this, they should get trained up in learning how to read and understand their financial statements. If they do this, the financial decisions they based on fact, and therefore be better decisions. If a business owner needs to buy a piece of equipment to help increase their business or replace machine broke down, they need to be able to tell if they have enough money in their business to do that. It may not also be possible to have to wait until there fiscal year end in order to see if they have that. Business owners may have to get an answer to that question immediately. Also, if business owners are able to see if their business is increasing, then they should be able to do more of what’s working, and if the business is decreasing, they need to understand what they can change in their business to impact that. For a variety of reasons, it’s important that business owners should be able to read and understand their financial statements whatever financial decision they need to make is.
There are several things that business owners can keep in mind when they are reading their financial statements, in order to make great decisions. The first one is they need to look at the balance sheet before they look at their income statement says CFO services. The reason for this, is because there may be obvious errors on their income statement that is only obvious when they look at the balance sheet first. Especially when business owners are looking at interim financial statements, the chances of errors existing on those are significantly higher. Business owners should look at the balance sheet first, get comfortable with how it looks, and then they will be able to make a business decision based on the information on their income statement.
When it comes to income statements, it’s extremely important that they are kept very simple in order to be effective says CFO services. Business owners should resist the urge to increase the amount of information that exists on an income statement, because in this case more information is not better. The reason is because when the income statement is one page, it’s easy to read and therefore easy to make decisions on.
Not only is the amount of information from statement is important, CFO services says that the way the information is organized is also extremely important. The most important way to organize the statement is in numerically descending order. This way, the most significant costs in the business will be at the top of the page and the most insignificant end up at the bottom. For that reason, entrepreneurs who need to reduce the cost in their business, can take a look at their income statement and easily see what they are able to impact, by sticking to the top half of the list, they will be able to see which items have the greatest impact on their bottom line. If the list is in alphabetical order, that becomes a lot harder for business owners to determine.
Business owners who are operating their business without understanding their finances, run a significant risk of not making the right decisions in their business says CFO services. So many decisions that business owners make on a regular basis are financial in nature, if they’re not consulting their financial statement ahead of time, they may be making decisions that could negatively impact their business. Since 50% of all entrepreneurs close the doors to their business within five years, and out of all of those failed entrepreneurs, 29 will say that the reason why their business failed was because they ran out of cash.
There are several ways that business owners can learn how to read their income statements quickly, so that they can make better financial decisions in their business. The first way is understanding the difference between direct cost versus general expenses says CFO services. The direct costs in business are the costs that are incurred directly as a result of doing business. The labour of producing their goods or services, the supplies bought to produce the goods and services. If those costs don’t exist, then a business owner is not building. The general expenses are classified as the overhead expenses that a business owner is going to pay the matter how many or how few jobs they invoice. Expenses such as administrative staff, office supplies and rent fall into this category.
Business owners should understand that if there looking at their costs, they should not get immediately worried if there direct costs suddenly increase significantly says CFO services. The reason for this, is because as long as the direct costs are going up proportionally with their revenue, and there’s nothing to worry about. The direct costs should go up with the revenue as that indicates increased sales. The business owner should always be looking at direct costs as a percentage of revenue, to verify if they’re going to put the same amount or not. If they are not going up proportionally in the direct costs are going up at a higher percentage than revenue, then that’s been a business owner needs to worry.
Another thing that business owners need to take into consideration when they’re learning how to read their income statements says CFO services, is understanding the difference between gross profit and net income. Gross profit is all of the money that the business owner brings into the business. This is the amount of money that comes in, this number does not take bills into consideration. Meanwhile, CFO services says that the net income is the profit of the business since the bills are paid net income equals gross profit minus direct cost. If a business owner doesn’t understand the difference between the two, they may look at their gross profit as their revenue, and assume there’s far more money in their business then there is which could lead to bad business decisions.