It’s easy to leave the bookkeeping and accounting to the bookkeepers and accountants. That’s what you pay them for, right? Although that’s true, the statements that your accountant generates for you on a monthly, quarterly, and yearly basis give you critical information on your business and may provide you with insight on financial adjustments that you should make… if you understand the statements. Let’s look at some accounting terms you will find on your Balance Sheets that you should be familiar with to make the most of your accounting expenses.
The Basic Accounting Formula
The basic accounting formula that all calculations depend on is:
Assets – Liabilities = Equity
This is an excellent place to start our explanation of accounting terms. These are the three elements that appear on your Balance Sheet. Let’s take a closer look at these three terms.
Assets on the Balance Sheet
The term Assets applies to anything that your company owns that has monetary value. It may be cash, equipment, inventory, accounts receivable, land, or vehicles. If it has a real value that can be represented by a dollar amount, it is an Asset. On the Balance Sheet, you will find your business assets listed in order of most liquid to least liquid. Cash, for example, has the highest liquidity, where land is lower on the liquidity scale.
Liabilities on the Balance Sheet
All financial obligations or debts appear in a list on the Balance Sheet as Liabilities. Some are current, such as a bill you owe to a vendor. Others are long term, like your business mortgage balance, which you will pay off over several years. Other examples of Liabilities include your payroll, loans, and Accounts Payable.
Equity on the Balance Sheet
Equity represents the dollar amount of the ownership held by owners and investors in the company. It can also be called Owner’s Equity, depending on how the business is structured. When an owner invests their own money into their business, it increases their Equity. Withdrawing funds from the company would decrease their Equity. In the case of a sole proprietorship without employees or payroll, owners would be paid through Equity draws at intervals decided upon by the owner.
Back to the Basic Accounting Equation
Reviewing the formula that we opened this article with, we hope that you see how the three components of the equation work together on the Balance Sheet to create a financial report that shows the general health of the business. Having more Assets than Liabilities indicates positive Equity and sound financial standing.
As a business owner, receiving these Balance Sheets and other financial reporting from your accountant regularly can identify problems before they become financial disasters. It’s easier to spot trends, both positive and negative, before they get out of hand.
If you’re not receiving Balance Sheets from your Accountant or Bookkeeper on a regular basis, or if you don’t understand these reports, contact JStevens Accounting, and let’s get together for a consultation. We would be happy to talk further about Balance Sheet accounting and financial reporting.