The Benefits of Using a Balance Sheet As a Business Owner
Balance sheets are used internally to guide management decisions. Externally, they can be used to report your business’s financial status to lenders, investors, and other stakeholders.
Also known as statements of financial position, balance sheets reveal what you own (your total assets). They also show what you owe (your total liabilities) at a specific point in time. The difference — shareholders equity — is your company’s net worth.
Diligently tracking your company’s finances can help you identify potential issues before they turn into major problems. In fact, 29 percent of small businesses fail due to lack of cash flow. This is an issue that may be avoided through proper reporting.
Ultimately, a balance sheet provides the information you need to sustain and grow your business over time. Creating a balance sheet doesn’t need to be complicated, and its benefits can be far-reaching.
In this blog post, we’ll review three notable advantages of balance sheets so that you can reaping the benefits.
What Are the Benefits of Balance Sheets?
1. It Determines Risk and Return
A balance sheet succinctly lists your business’s assets and liabilities in one place. Current and long-term assets reflect your ability to generate cash and sustain operations.
In comparison, short and long-term debts prioritize your business’s financial obligations. Ideally, you have more assets on your balance sheet than liabilities, indicating positive net worth.
Comparing your current assets to current liabilities determines whether your business can cover its short-term obligations. If your current liabilities exceed your cash balance, your business may require additional working capital from outside sources.
However, a balance sheet can also show you when your debt levels aren’t sustainable. If you have too much debt on your balance sheet, you may default on debt payments or declare bankruptcy. By using your balance sheet to identify these issues, you can avoid long-term financial problems.
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2. It Can Be Used to Secure Business Loans and Other Capital
Your balance sheet allows people outside of your company to quickly understand its financial condition. Most business lenders require a balance sheet to determine:
- How secure the business’s financial health has been over time.
- If the business owner has strong credit history.
- If the business has a strong track record of repaying debts.
In addition, potential investors may use it to determine where their funding will go and when they can expect repayment.
When updated over time, your balance sheet effectively shows your ability to collect payments and repay debts. Plus, it shows lenders that you have a track record of managing assets and liabilities responsibly. If you apply for a business loan, it’ll also prove to lenders that you’ll repay your loan on-time.
3. It Provides Helpful Ratios
Ratios are often used in analyzing how a company is performing in terms of aspects such as:
- How profitable your business is
These financial ratios are particularly helpful when assessing how sustainable the business will be the long-term. They can be determined by a company’s balance sheet accounts.
For example, your balance sheet is a snapshot that reveals your company’s overall capital structure. It can also tell you how long it takes to sell inventory and the length of your accounts receivable process. This information can help you identify trends and see how your company’s finances and operations compare to competitors.
Conclusion: Make Financial Reporting a Priority!
Preparing and understanding your company’s financial statements is an important part of being a small business owner. The balance sheet is particularly helpful in that it keeps both you and your stakeholders informed of your financial standing.
Keeping this information updated can help you make better management decisions. In addition, it may improve your business’s efficiency, borrowing habits, and overall financial health.
Editor’s Note: This post was updated for accuracy and comprehensiveness in April 2021.
Editorial Note: Any opinions, analyses, reviews or recommendations expressed in this article are those of the author's alone, and have not been reviewed, approved, or otherwise endorsed by any of these entities.