Understanding Your Business’s Financial Health: 3 Essential Questions

In this article, we’ll discuss three essential questions every entrepreneur should ask about their business—questions that can be answered through key financial statements.

In this world filled with constant distractions, grasping the financial health of your business is vital. One of the best ways to do this is by regularly reviewing the balance sheet, income statement, and statement of cash flows.

By examining these financial reports, you’ll gain valuable insights to help you make informed decisions, track your growth, and ensure your business’s success. Let’s get started!

3 Essential Questions Every Entrepreneur Must Ask That Financial Statements Answer:

1. What is the equity (capital) in my business?
   • This is similar to understanding your net worth in personal finances.
     
2. What is my profit? Am I making money?
   
3. Where did the cash come from, and where did it go?

These three questions work together to give you a complete picture of your business’s financial health.

Exploring the Financial Statements

1. Balance Sheet

The Balance Sheet Answers: What is the equity (capital) in my business?

The balance sheet shows the equity (or capital) in your business. It follows this basic equation:

Assets = Liabilities + Equity

This statement provides a snapshot of your business’s financial position at a specific date
(December 31), showing total assets, liabilities, and equity.

You might also hear it referred to as the “Statement of Financial Position.”

2. Income Statement

The Income Statement Answers: What is my profit? Am I making money?

The income statement summarizes your revenue, costs, and expenses over a specific period to determine your net income (or loss).

Formula:

Revenue – Costs – Expenses = Net Income

This statement is temporary and resets after a period, similar to a year-to-date pay stub. Net income is then transferred to the equity section of your business balance sheet.

3. Statement of Cash Flows

The Statement of Cash Flows Answers: Where did the cash come from, and where did it go?

This statement breaks down cash flow into three main categories:

• Operating activities: (e.g., sales and purchasing inventory)
• Investing activities: (e.g., buying equipment)
• Financing activities: (e.g., taking out a loan)
  
  

As an entrepreneur, regularly reviewing key financial reports—such as the balance sheet, income statement, and statement of cash flows—from your bookkeeping software is essential. If you’re not doing this, or if your accountant isn’t supplying these reports, you could be overlooking vital insights into your business’s performance.

Staying informed about your financials is essential to avoid setbacks and ensure that the time, energy, and money you invest in your business yield positive returns.

Set aside a time each month to review this with your accountant/bookkeeper or accountability partner in the business.