The business was doing well.
At least, that's what the owner thought.
Sales were strong. The income statement showed a profit. Revenue had increased compared with the previous year, and the owner felt confident about the direction of the business.
There was just one thing the owner rarely looked at: The balance sheet.
The income statement was familiar. It showed revenue, expenses, and profit. The owner checked it regularly.
The balance sheet seemed less interesting.
Until one day, the owner decided to take a closer look.
Profit Wasn't the Whole Story
The business was profitable, but the balance sheet told a more complicated story.
Accounts receivable had grown significantly. Customers owed the business more money than they had in the past.
The business had also taken on additional debt to support its growth.
And although the company had generated a profit, the amount of cash available wasn't nearly as comfortable as the owner expected.
Nothing was necessarily wrong. But the numbers raised questions that the income statement alone couldn't answer.
Where was the money tied up? How much did the business owe? How much did customers still owe the business?
What did the business actually own? That's where the balance sheet became important.
The Other Side of the Financial Story
The income statement and balance sheet answer different questions.
The income statement shows the business's income and expenses over a period of time.
The balance sheet shows the business's assets, liabilities, and equity at a specific point in time.
The IRS explains that good records help businesses prepare accurate financial statements, including income statements and balance sheets, and that these statements can help owners manage their businesses.
Looking at both statements gives a more complete picture.
A profitable business can still have a lot of money tied up in unpaid invoices.
A growing business can also take on debt faster than an owner realizes.
And a business can own valuable assets while having limited cash available to pay its current obligations.
What Your Balance Sheet Can Tell You
Your balance sheet can help you see things that aren't obvious from revenue and profit alone.
For example:
Accounts receivable: How much money are customers still owing you?
Accounts payable: How much does the business currently owe vendors?
Debt: How much financing is supporting the business?
Cash: How much cash is actually available?
Assets: What does the business own?
Equity: How much of the business's net assets belong to the owners?
These numbers can change significantly as a business grows.
That's why reviewing the balance sheet isn't just something to do at tax time.
The Lesson
Business owners naturally pay attention to revenue and profit. But those numbers don't tell the entire story.
The income statement tells you how your business performed. The balance sheet helps you understand where your business stands.
When both are accurate and reviewed regularly, they can give you a much clearer picture of the financial health of your business.
Sometimes the most important financial information isn't in the number you were watching.
It's in the statement you weren't looking at.