This article discusses the following:
- Understanding financial statements for small business owners
- The financial statements every business needs
- Profit and loss statements
- Balance Sheets
- Cash Flow Statements
- The benefits of financial statements
- How to prepare financial statements
- Using online tools and software to prepare and manage financial statements
- How accounting software can help your business
- The best accounting software for small businesses
- Choosing the right accounting software for your business
There are two basic types of small business owners: Those who understand and appreciate the value of financial statements, and those who think they are a huge headache and wish they didn’t have to use them. Typically, the former have easy-to-use automated software, while the latter are engaging in a mad scramble to assemble valid numbers whenever tax time rolls around.
The truth is, it doesn’t matter if you are engaging in a side hustle that nets a few thousand every year, or are on your way to becoming a Fortune 500 behemoth—every small business needs accurate financial statements to operate.
This guide offers an understanding of financial statements for small business owners while showing you where to find online help to prepare your statements.
Understanding financial statements for small business owners
Financial statements are the official records summarizing a company’s financial activities. They help small business owners understand their financial position by tracking income and expenses, liabilities, and equities. This can help identify both problems (for example, if expenses are greater than revenue) and opportunities for strategic growth.
Financial statements are also typically required by lenders when you need financing for your business. They show your business’s market value, financial performance, and profit margins.
They’re also essential tools in assisting businesses with tax preparation and are usually required if the IRS audits a company.
What financial statements does a small business need?
There are three financial statements that all small business owners should prepare: Cash flow statements, a profit and loss statement, and a balance sheet. Each is an instrumental component of small business accounting practices.
Here’s a look at what each financial statement does:
Profit and loss statement
A profit and loss statement (P&L) summarizes a business’s operating expenses, net profit, gross profit, and costs of goods sold in a given timeframe, typically a fiscal year. A profit and loss statement is sometimes referred to as an income statement.
The profit and loss statement provides insight into whether or not a company can turn a profit by implementing measures such as reducing expenditures, increasing revenue, or both.
After all calculations, the final figure on a profit and loss statement reflects the net income for the business after costs and expenses have been subtracted from the company’s revenue.
A second piece of the financial statement puzzle is the balance sheet, which offers an overview of your small business’s assets, liabilities, and your company’s net worth. A balance sheet is prepared at the end of a financial reporting period.
The sheet consists of two columns. The column to the left shows the assets, and the column on the right lists the business’s liabilities and any equity owned in the company.
The debt ratio is illustrated on the balance sheet and is an important index to understand the financial health of a business. This ratio compares the total of the company’s assets to its liabilities. This is achieved by dividing the total liabilities by the total assets to determine a percentage. For example, if a company has $200,000 in assets and total debt of $100,000, the debt ratio would be 50%.
Ideally, a business’s assets should be able to support its debts. Problems occur when a business has too much debt when compared to its assets, so the debt becomes unsustainable, resulting in bankruptcy.
The owners’ equity is also listed on the balance sheet. Owners’ equity is essentially the same thing as the net worth of the company. In simple terms, it is how much of the assets would be left if all the business’s liabilities were paid off.
If the equity increases, it means that the business is headed in the right direction. But if it decreases, it likely means that some changes are needed. For instance, the company may need to reduce its debt load.
Cash flow statements
A cash flow statement shows where the money coming into a business originates from and how your company is spending the money. This includes all operating, investing, and financing activities, but excludes all future financial activities, like accounts payable or receivable.
What are the benefits of having financial statements?
Together, the different financial statements offer a detailed picture of your company’s financial strength and monitor metrics and changes to help you make the best decisions about your business.
For instance, if financial statements show that your business has too much debt and not enough income or assets, it could help you refrain from spending for a while. On the other hand, the statements could show a healthier asset-to-debt ratio, encouraging you to invest further to grow your business.
Here are some other benefits to preparing financial statements:
- Improves management of working capital
- Offers an up-to-date synopsis of your financial health when exploring funding options to grow or refinance your business (needed for business plans when applying for a business loan)
- Helps with tax compliance in calculating liabilities for tax returns
- Outlines payroll obligations
How do I prepare monthly business financial statements?
Some entrepreneurs choose to do their own financial statements by creating spreadsheets or using online templates, particularly if their business finances are relatively uncomplicated. But let’s be realistic—even small businesses can be complicated. And as a result, many entrepreneurs who start out as DIYers either give up in frustration and hire an accountant or switch to online tools. If you decide to hire an accountant, be sure to ask around for recommendations to find someone you can trust with the type of business you have. But if you’re interested in online tools that can make your life easier without hiring someone, read on.
Using online tools and software to manage financial statements
When it comes to online accounting software, there are a lot of options to choose from. Most programs make it easy to do basic tasks like preparing financial statements, invoicing, and tracking accounts payable and receivable.
Typically, you’ll start by entering your basic business information, including business bank accounts and credit cards. This will sync your business transactions so that they appear on the appropriate financial statements.
Finding the right tool will allow you to quickly and intuitively run reports to gauge your business’s profitability metrics, check balances on loans and bank accounts, compare revenue to expenses, and forecast your income tax liabilities. This will save you both time and money on your bookkeeping, even when you are paying a fee for accessing the platform.
Here are some of the best accounting software programs for small businesses:
Many small business owners and experts consider QuickBooks Online by Intuit to be the best accounting system. Many accounting professionals use the software in their practice to assist with preparing financial statements.
The cloud-based and mobile-friendly app is user-friendly with an intuitive interface and is scalable and grows with your business.
- Customizes financial reports
- Trains users and has excellent customer support
- It is more adaptable and reliable for niche industries
- Offers great compatibility with third-party websites like e-commerce platforms and payment processors
- Automates and streamlines financial tasks
- Tracks income and expenses
- Has Invoice, payment, inventory, and payroll functions
- Runs comprehensive financial reports
- Manages cash flow and self-employed contractors
- Accounts payable functionality
- Have to subscribe to the highest tier for the software to go back to the previous version of your accounting records
- More expensive to maintain your books and increase the functionality with added features
- Payroll processing functionality isn’t the best
- Shares payroll data with Equifax
- Synching problems have been reported with banks and business credit cards
- QuickBooks Online’s four plans regularly range from $25 to $180 per month. But the software provider is currently slashing its prices in half for users who purchase a 3-month subscription.
Xero is a no-frills, simple small business accounting software with cloud capabilities for micro-businesses.
It integrates well with third-party payroll apps and offers businesses online payment collection from customers through GoCardless and Stripe payment platforms. Many experts say Xero is the best accounting software where unlimited user capabilities are needed.
- Considered a solid second option for QuickBook enthusiasts
- Complete financial statement reporting at every level
- Automated capturing of bills and receipts
- Double-entry accounting
- Bank reconciliation
- Purchase order, expense, and tax management
- Inventory, cash flow, and project management capabilities
- Payroll services
- Affordable and doesn’t charge extra for added users
- Offers a 30-day free trial
- Charges fees for ACH payments
- Customer service is lacking
- Limitations on invoicing and billing on the entry-level plan
- Has more limited financial reporting capabilities than QuickBooks
- The cost for Xero ranges from $12 for new businesses and self-employed contractors, to $34 for small businesses, to $65 for larger established companies.
FreshBooks has more customizable solutions than other small business accounting software programs. It’s also considered the most mobile-friendly of all accounting software programs.
- Integrates well with third-party apps
- Performs time tracking of projects
- Great for invoicing, expense tracking, and online payment functionalities
- User friendly and affordable
- Highly rated accounting app for small businesses
- Insight reporting to help make better business decisions
- Allows for seamless project collaboration
- Has received awards for its customer service
- Doesn’t have inventory management
- Mobile app has limited functionality
- Financial statement reporting features aren’t as comprehensive as other accounting software
- Some users complain about glitches in expense automation
- Has no payroll service
- FreshBooks’ Premium plan is regularly $50 a month but is currently being offered for $20 per month.
Wave Accounting Software
Wave offers free accounting software, in addition to a per-use tier for payments and a monthly payroll service. For a free service, it delivers a punch, including expense and income tracking and general accounting reports for your business.
- Unlimited income and expense tracking
- Invoicing and payroll bookkeeping
- Great for users with no accounting experience
- Customizable, unlimited invoicing, sales tax, and templates
- Basic accounting reports
- Ability to run multiple businesses with unlimited users
- Double-entry accounting
- Free services
- Not as comprehensive when it comes to financial statement reporting
- Functionality is limited, and there’s no higher-tier to increase it
- Reports by users alleging fraud and misrepresentation of the product
- User reviews complain that the updates change the formatting
- Complaints about a lack of customer service and a slow system
Choosing the best online solution or financial software for your small business accounting
As a small business owner, you’ll want to choose online accounting software that best serves your business needs. You need one that creates accurate financial statements and has the accounting functions your business uses the most.
It’s also good to choose a scalable accounting software program that will grow with your business. If you’re a new entrepreneur, this might mean that you start out at a more affordable tier that has fewer reporting capabilities but upgrade later on as your business expands and has more success.
If you have a business with lots of inventory, you’ll undoubtedly want to choose software with excellent inventory management.
The main thing is to figure out which accounting tasks are the most important for your small business and choose a tool that aligns best with your needs.