As a business owner, you need to take the time to review your financial statement. While you may not possess an uncanny ability to spot red flags in an instant, gaining a basic understanding of your financial statements is enough. This way, you will easily identify any discrepancy that can create a negative effect on the financial health of your business.
If you want to earn the trust of your creditors and investors, they need to see consistent income in your financial statement. The income must be from continuing operations. However, if income is obtained from other sources such as one-off sales, gains from the sale of investment and gains from the sale of fixed assets, this should be a cause for concern.
These revenues are considered non-operating and may not be valuable because the possibility that this revenue will not reoccur is strong. You can identify non-operating income as it is stated separately from operating income. It is found on the income statement. If the operating income decreases, this only means you should double your efforts into revenue sources that will not disappear.
A profitable business does not mean having enough cash. A company needs to make sure that the cash is also flowing into the business to gain the confidence of investors. If you are falling behind your loan repayments or not collecting receivables quickly, it only means that you have poor cash flow patterns. When it comes to spotting cash flow patterns, pay attention to net income. If the net cash flow is low compared to net income, this can be another sign of a financial crunch.
It might be necessary to sell equipment every once in a while especially when it is not performing well, but if you used the cash for short-term expenses or to pay your debts, this can be a warning sign. The only exception is when the proceeds are reinvested into the business. Disposals of fixed assets can be an obstacle to your operating revenue. Disposals are found on the balance sheet. It is necessary for a business owner to be aware of the reason for selling the fixed assets. The disposals need to be significant and that said, an explanation of the reason for selling the fixed assets must be prepared.
An increasing inventory may mean two things: you are expanding your offerings or you have products that are not selling. If the latter is the reason for the increasing inventory, there is a higher risk of spoilage. Make sure your inventory percentage is not higher than the prior years as this only denotes that you still have some inventory sitting on your shelf.
Peter Broberg is a bookkeeping professional with over 20 years experience in the finance sector. With more than 2 decades of experience, Peter provides payroll and bookkeeping services on a professional level. His services cater to small and medium enterprises in Cannington, Kalamunda.