A business’s financial statements are essential reports that serve multiple purposes for external and internal reporting. For external reporting, auditors, financial institutions, and the Canada Revenue Agency use your business’s financial statements to review the completeness and accuracy of your business’s finances, offer financing, and tax your net income, respectively.
The key financial statements every business must have are the balance sheet, income statement, and cash flow statement. Here’s what you need to know about your business’s financial statements.
The Balance Sheet
The balance sheet is a financial report that shows the assets your business owns and the liabilities owed to debtors and vendors.
The total assets on a balance sheet are broken down into current assets and non-current assets. Current assets are assets your business owns and controls and can easily convert to cash, usually within a year. Examples of current assets are inventory, cash and cash equivalent, accounts receivable, and prepaid expenses. Non-current assets are assets your business owns and controls for more extended periods, usually over a year. These assets generally require substantial capital investments. On a balance sheet, typical long-term assets include property, plant, equipment, and machinery.
The total debt on a balance sheet consists of short-term debt payable within a year and long-term debt owed for a period greater than a year. Short-term debt includes what your business owes vendors and what is payable to the banks within a year.
A balance sheet is helpful in business finance planning as it allows you to calculate financial metrics and ratios using the business’s long-term assets, cash position, current liabilities, long and short-term debt, and shareholder equity. Financial institutions assess a business’s financial position by reviewing its assets, financial ratios, and the ability to settle outstanding financial obligations.
The Income Statement
The income statement is a financial report often referred to as a profit and loss statement. The income statement shows how much profit or loss a business makes within a year. Your business’s revenue is the starting point on the income statement. Your total revenue is how much your business makes from product or service sales.
The direct costs for running your business, producing goods and services are called the cost of goods or services sold. These costs are essential and directly related to producing a product or providing a service. A business’s net income after deducting the cost of goods or services sold from its revenue is called the gross profit. The gross profit margin shows how much residual income a business has generated above its direct costs of goods and services and how efficient it is in covering other operating, administrative and general expenses. Examples of general expenses businesses incur include freight, insurance, property taxes, office rent, utilities, salaries and wages, and transportation. Deducting these expenses from your gross profit will result in a net income before taxes.
The CRA requires businesses to remit income taxes on taxable income. Your business’s taxable income is the net income adjusted for tax deductions. Business tax rates and guidelines differ depending on if your business is a sole proprietorship, partnership, or corporation. DW & Associates Chartered Professional Accountants assist businesses in filing and managing their T2 Corporation Income Taxes to maximize their tax returns.
The Cash flow Statement
The cash flow statement breaks down how much cash your business generates and spends within a period. A business’s cash flow statement shows the cash flow from operating, investing, and financing activities.
Cash flow from operating activities reports cash inflow and outflow due to changes in operating assets and liabilities such as inventory, accounts receivable, accounts payable and taxes. Any cash flow required for your business’s day-to-day running is a cash movement from operating activities.
Cash flow from investing activities is driven by cash flow movements arising from purchasing long-term assets, such as investment shares, property, plant, and machinery. Cash returns on investments also fall under cash flow from investing activities.
Cash flow from financing activities includes cash inflow from money your business receives from financial institutions and other external parties. These are cash sources from short and long-term loans or shareholder financing to fund business operations. Cash outflows to repay loans and dividends to investors also fall under cash flow from financing activities.
