Navigating the world of a business' accounts means that Business Leaders will invariably be asked to read through a Profit and Loss Statement (P&L). At this point, it’s worth remembering that amongst the jargon of accounting, there are two central reports in business - the pinnacle of Profit which is the P&L Statement and its companion - the Balance Sheet which reflects the cash position of a business, because we all know that Cash is King.
Therefore the P&L statement is representative of the efforts a business makes in order to reach a profit from the total number of sales transactions it has made over a given period of time. The P&L will show total sales minus expenses i.e. cost of goods and other costs related to the production of the good or service1. This may mean that after those deductions are made, there is a “Profit” appearing on the P&L Statement.
Why isn’t there any cash in the bank?
There are a few reasons why there isn’t any actual cash materialising in the business. The P&L doesn’t reflect all uses of cash2 and therefore it won’t be clear from just that one report why the business doesn’t hold those funds.
A good place to understand the cash position of a business after reading a P&L is on the Balance Sheet. This will provide valuable information on financial position of a business in a given time period.
For example a loan repayment may only appear in part on the P&L and similarly, any fixed assets such as capital equipment, won’t appear on the P&L either. In fact, fixed assets won’t appear on the P&L at all. Those items will be recorded on the Balance Sheet. That’s why the two reports work best together rather than in isolation of each other. When they are used together it may be found that the cost of loans and assets on the Balance Sheet has exceed the profit made on the P&L, which means that, at the end of the day, the business has made a loss and not a gain.
Another good example where there actually is cash in the business but it hasn’t materialised is when the business has sent all invoices to their customers but the customer has not paid them. An accumulation of unpaid customer invoices may represent a figure as high (or higher) than $100,000 in a given period. Unpaid invoices appear as a “debtor” and in some cases these debts can sit in the business ledger for over 120 days uncollected. This is becomes a serious problem in businesses where the terms of payment may be as short as 14 days from the date of issue.
Information on a Balance Sheet
A business’ Balance Sheet will show the financial position of the company from the point of view of its assets and liabilities. Here is where a Business Leader will see actual cash in the bank, debts owed to the business, stocks/shares, capital investments (equipment, buildings, acquisitions) and liabilities which may include creditors, loans and overdrafts. Providing a clear reconciliation of funds works best when the Balance Sheet (financial position) is reviewed alongside the P&L (sales position).
Build an “all-in” list of expenses
In the event that the report that a Business Leader is currently receiving hasn’t captured all expenses, implement a priority project within the business to itemise all the expenses. Once those are understood, the accountant or financial manager can re-run all the business P&L and Balance Sheet numbers. Allocating the expenses to the appropriate report.
Clarity in accounting is paramount to steering any business forward and having a comprehensive P&L and Balance Sheet report will provide solid ground to work on.
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