How To Interpret Your Financial Reports (Part 1)

In Part 1, we are going to go over the Balance Sheet. The Balance Sheet shows you how much equity is in the business, how many assets the business owns, and what the business owes in liabilities. 

• Assets: Assets are the items of value owned by your business. This includes the cash in your bank accounts, accounts receivable, and assets like equipment, computers, and furniture.

• Liability: Liabilities are made up of debts that you owe to other businesses and includes accounts payable, loans, credit card balances, deposits and retainers from your clients, and any taxes that you owe (sales tax, payroll tax, etc.).

• Equity: Equity is the net assets of a business (Assets – Liabilities = Equity). This shows how much you have contributed to the business from personal funds (Capital) and how much you have withdrawn from the business for personal use (Owner’s Draw).

ASSETS

Assets include your Checking and Savings Accounts, as well as other assets like furniture in your office and your computer and other equipment. The balances in your checking and savings account change day-to-day. If you want to check the real-time balance of your checking or savings account, we recommend that you log into your online banking platform. 

Focus On: Undeposited Funds

Undeposited Funds is like the drawer of a cash register. Payment records will go into this account until they clear your checking account. 

Example 1: You receive a payment online. The record of the payment goes into Undeposited Funds. Your online payment processor (IVY, QuickBooks, Square, etc.) will deposit the funds into your checking account in 3-5 business days. Once the payment has been deposited into your checking account, your Account Manager will move the payment from Undeposited Funds to match it with the actual deposit. 

Example 2: You receive a check from a client for an invoice. You record that you received the payment in IVY or your project management system. The record of the payment goes into Undeposited Funds and will stay there until you deposit the check into your account. Once the payment has been deposited into your checking account, your Account Manager will move the payment from Undeposited Funds to match it with the actual deposit. 

When you receive your reports from your Account Manager, the balance of your Undeposited Funds account should always be $0.00, unless accompanied by an explanation - like a date/timing issue - or a question - like is that check still sitting on your desk waiting to be deposited?

LIABILITIES

Liabilities include debts that you owe another entity - like a credit card balance, taxes, and loans. Your client retainers are also considered a liability until they have been applied to an invoice (and move to the Profit and Loss Statement as Income). 

The balances of your credit cards change day-to-day. If you want to check the real-time balance of your credit cards, we recommend that you log into your online banking platform. 

Focus On: Client Deposits/Retainers

Many of our clients collect retainers from their clients. You may collect funds upfront for a whole house install, or maybe these funds are for their final time-billing invoice. Either way, it is important to keep up with how much income you are holding in this liability account. 

On the Balance Sheet, your client retainers are included as a sum, but if you refer to the Open Invoices report, you will see the available retainers listed by the client. 

EQUITY 

The equity section of a balance sheet refers to a business’ total net worth. You will see any funds that were invested in the business (Capital or Contributions), as well as the sum that you have taken out of the business (Owner’s Pay & Personal Expenses). 

Retained earnings can be considered the amount of net income retained by a company. You calculate retained earnings at the end of a period (most likely, the end of the year) by the beginning earnings and add any net income (or net loss) for the year. This will increase or decrease the amount of earnings that remain within the business. 

Focus On: Owner’s Pay & Personal Expenses

We highly, highly recommend that you eliminate all personal expenses on your business accounts. We would rather see you pay yourself more than charge your Netflix and Nordstrom to your business credit card. Be sure to check in on this amount each month. If you have a habit of putting personal expenses on your business accounts, it is critical that you review this balance each period. 

Going Deeper: Cash Basis vs. Accrual Basis

Your reports will be different depending on if we run your reports on a Cash Basis or an Accrual Basis. This will be a completely separate blog topic one day, but here are the highpoints. 

Cash accounting recognizes revenue and expenses when money changes hands. Because of this, there are no Accounts Receivable or Accounts Payable accounts on the Balance Sheet if you are a cash-based accounting business. 

Accrual accounting recognizes revenue when it’s earned, and when expenses are billed (but not paid). There are certain parameters that an accrual-based accounting method, like gross receipts and what state you’re located in. We’ll make a completely separate post about this topic, but please contact us or your CPA if you have any questions regarding cash-based vs. accrual-based accounting methods. 

What’s Next?

Your monthly or quarterly financial packets also include a monthly Profit & Loss statement along with a Year-to-Date Profit and Loss Statement. In our next post, we will discuss the key components of this report and how it can serve your company. 

If you have any questions or would like to review your Balance Sheet, please contact your Account Manager. Business by the Book is here to serve and guide you through every aspect of your financial reports!

This post is meant for informational and educational purposes. It is not tax, legal, or financial advice. As always, Business by the Book recommends that you consult with your CPA regarding any tax questions.