Preparing balance sheets can help attract investors by painting a clear picture of your small business financials.
The best way for investors to know how you’re going to treat their money is to look at how you treat your money. Just as a traditional mortgage lender looks at a credit report to evaluate a potential borrower, an investor often makes decisions based on a business’s financial statements. This includes your balance sheet, which represents your assets, liabilities, and net worth in an easy-to-digest format.
The structure of a balance sheet is built around a basic financial accounting equation:
assets – liabilities = owner’s equity
Here’s a breakdown of those terms as well as valuable tips, resources, and examples to help you create a snapshot of your business financials.
Assets include the value of everything owned by and owed to the business. On a balance sheet, assets are usually split into current and non-current assets.
Current assets are cash and those items that are likely to become cash in one year or less, such as inventory, accounts receivable (amounts due in the short term), and notes receivable (amounts due within 12 months).
Fixed assets, such as real estate and equipment, are categorized as non-current because they are less likely to sell in a year or less.
For purposes of the balance sheet, assets will equal the sum of your current and non-current assets — less the depreciation (or decrease in value over time) of those assets.
On the other side of the equation are your liabilities, both short- and long-term. These are the monetary obligations you owe to banks, creditors, and vendors.
Short-term liabilities include accounts payable, such as monthly invoices owed to vendors and creditors, and notes payable owed to others within the next 12 months.
Long-term liabilities, or those due more than a year away, include a mortgage balance payable beyond the current year.
The last component of the balance sheet is owner’s equity, sometimes referred to as net worth. This is your net investment in the company. It’s equal to total assets minus total liabilities. The financial statement should balance, showing assets equaling liabilities plus owner’s equity. This is one reason it’s called a balance sheet.
Making balance sheets work for you
Balance sheets focus primarily on tangible assets. These are the ones you can see and measure, such as inventory, machinery, vehicles, and land. Companies usually have some mix of tangible and intangible assets.
While all balance sheets follow the same equation, the types of accounts listed will vary based on the type of business. Product-based companies, such as retailers, sell goods to consumers and have overhead expenses like inventory and real estate. Service-based companies, like dry cleaners or law firms, sell services instead of goods, so they do not typically have inventory or raw products on the balance sheet. The method and time period in which payment is accepted may also change what’s listed in the balance sheet.
Balance sheets are usually drafted at the end of accounting periods: monthly, quarterly, or yearly. It’s a good idea to look at these documents alongside others such as income statements (which show long-term profits minus losses) and cash-flow statements (which show how quickly revenue is collected). A financial advisor can help you create and analyze these financial statements for a clear picture of your cash flow.
Balance sheets can be created with ease, even if you’re not an accounting professional. Beyond balance sheets, you can improve your chances when applying for credit by taking key steps to prepare and learning how to develop a good credit application. The U.S. Small Business Administration (SBA) offers free online learning courses on running a successful business as well as live webinars, which may include courses on accounting.
Bookkeepers and Certified Public Accountants (CPAs) can also be invaluable. Consider enlisting a bookkeeper for day-to-day accounting and a CPA to prepare and analyze statements to help plan your financial future. With an accountant, financial advisor, and banker, you can form a helpful team to assist you.