Reading your own profit and loss and balance sheet: five questions they answer

Many owners get a set of financial statements each month, glance at the bottom line and set them aside. That's understandable, since the pages are dense. But two reports in particular, the profit and loss statement and the balance sheet, are really just answers to questions you already have. You only need to know which question goes with which page. This guide assumes the underlying books are accurate, which is its own job and one a good bookkeeper takes seriously.

Did I make money this period?

The profit and loss statement, sometimes called an income statement, covers a stretch of time such as a month, a quarter or a year. It starts with revenue at the top, subtracts the direct cost of delivering what you sell, then subtracts operating costs like rent, insurance and software, and lands on net income at the bottom.

Read it in that order. Revenue first: is it in line with what you invoiced? Then the middle: did the direct costs grow faster than sales? That would squeeze your margin even in a busy month. The bottom line matters, but the shape of the page tells you more.

Where is the money going?

Scan the expense lines for anything that surprises you. A well-kept chart of accounts breaks costs into categories that mean something for your business, so a jump in one line is a prompt to look closer. Compare this month with the same month last year and with the month before. Ask whether a big expense was a one-time purchase or a new habit, and check that nothing is sitting in a vague catch-all category, because that is where useful information goes to hide.

What do I own, and what do I owe?

The balance sheet is a snapshot of a single day instead of a stretch of time. On one side, assets: what the business holds, including cash, money customers owe you, and equipment. On the other, liabilities, what the business owes, and equity, what is left for the owners. The two sides always balance, which is where the name comes from.

Look at the details that tell a story:

• Cash: does the balance match your bank statements for that date?
• Accounts receivable: how much do customers owe you, and how much of it is old?
• Accounts payable: what bills are coming due?
• Loans and credit cards: have balances gone down, or grown?
• Payroll liabilities: do they show amounts owed that should already have been paid?
• Owner's equity: do draws and contributions look the way you remember them?

Can I cover what's coming?

This is where the two reports work together. A business can show a profit and still run short of cash, because profit counts a sale when you invoice it, while cash arrives when the customer pays. Put the receivables on the balance sheet next to the payables, and compare both with your cash balance. If a lot of money is owed to you and a lot is due out soon, you can see a squeeze weeks before it arrives. A cash flow report, where you have one, lays the same movement out as a timeline.

Can I trust these numbers?

This is the question people forget, and it may be the most important one. Reports are only as good as the work under them. Before you act on a statement, check a few things: Was every bank and card account reconciled to its statement for the period? Do the balance sheet's cash figures match what the bank says? Are there large transactions in categories that don't fit? An honest bookkeeper will be glad to show you the reconciliation behind the reports, and will tell you plainly when a figure is an estimate.

If you can answer these five questions after reading two reports, you're already making decisions with real information. Over time, add a budget and compare it with actual results each month, so a missed target shows up while there's still time to respond.

Guirian Bookkeeping Services LLC prepares financial statements, reporting and budgeting for owners in Waldorf, White Plains, Washington DC, Bethesda and Silver Spring, and Amy Guiriansoro walks clients through what the pages mean, by appointment, in a virtual consultation. Read about Guirian's financial statements service on this site, then call (301) 848-6619 to talk it over.