As owners and managers, your responsibility is to review accurate financial statements on a timely basis. This allows you to make good business decisions and spot minor issues before they become major crises. Here are six, easy-to-spot things to look for when analyzing your financial statements.
Listen to the interview I did with Kevin Price about this topic:
Watch out for these issues:
1. Negative cash on your balance sheet.
You cannot have negative cash in the bank. Your banker will return any check to its sender without payment if there is not enough money in your account to cover the amount of the check. Normally when I see negative cash, it means that your bookkeeper is lazy. She printed all the checks that have to be paid for the time period and is holding them until there is enough cash in your checking account to cover the checks. You don’t have an accurate picture of cash or accounts payable so you can’t make good business decisions.
2. An even inventory number – or no inventory
There is less than a one in one million chance that your inventory is exactly $20,000 or $3,500. When I see this I know that inventory is not being properly tracked and that material cost is usually not accurate either. Or, if I see no inventory at all, I know the statements are wrong.
Inventory is a bet. You’ve bet your hard earned dollars that when you buy a part or piece of equipment that you can sell it at a later date. Make sure you make good bets. Look at your warehouses and your trucks. How much inventory has been sitting on the shelves for more than a year? Those are bad bets.
3. Balance sheet that doesn’t balance.
The definition of a balance sheet is that assets equal, or balance, liabilities plus net worth. If your balance sheet doesn’t balance, then someone has incorrectly entered information to your computer system. You cannot make any good decisions about your business when the balance sheet doesn’t balance.
4. Negative loan balances.
A negative loan balance means that the bank owes you money for a loan. You owe the bank the loan amount; the bank doesn’t owe you. Generally when I see this, a bookkeeper has entered the entire monthly loan payment against the loan. Part of the monthly loan payment is principal reduction of the loan amount and part is interest the bank is charging you. The interest is an expense to your business and is shown on your profit and loss statement. The loan principal reduction is shown on your balance sheet.
5. Negative payroll taxes payable
Like negative loan balances, it is unlikely that the Internal Revenue service or your state revenue department owes your company money. Normally this is an incorrect entry from payroll.
6. No rent, utility bill, etc. or extremely high rent, utility bill, etc.
These are seen in the overhead segment of your profit and loss statement. You pay rent every month. You pay your electric bill every month. If you see a month with no rent or extremely high rent, the likelihood is that the bookkeeper didn’t put the expense in one month and doubled the expense in another month. Both give you inaccurate profit and loss statements.
7. Inconsistent gross margins.
If you are pricing your services and products the same every time, then the gross margins should be the same. Different departments and different classifications of work can have different margins. For example, the margin on replacing a fan motor (ie a part of an air conditioning system) is probably different than the margin on replacing a whole air conditioning system. However, the fan motor repair margin should be the same each time (with rare exceptions). Differing gross margins is your first clue that labor productivity is up or down. Or, the accounting is wrong – you have revenue in one month and the expenses against that revenue in a different month. Either way, you cannot make good financial decisions when your gross margins are inconsistent.
Spotting these financial statement mistakes gives you a good idea that you must get additional information to ensure that your financial statements are accurate. Accurate financial statements are critical to ensure that your business is profitable or to give you the information you need to take steps to make it profitable.