- October 26, 2022
- Posted by: New School
- Category: General
Reading financial statements may not be the most exciting thing to do in your business, but it is one of the most important. Your practice’s financial statements are the “thermometer” of your practice’s financial health. To properly manage your business, you have to review your statements at least monthly. Most financial statements are composed of a balance sheet and income statement. Some will also contain cash flow statements and statements of shareholder equity, which will not be covered in this article.
The good news is financial statements are really not hard to understand. With a little diligence and practice, you can gain a good understanding of them. As the United States Securities and Exchange Commission says, “If you can read a nutrition label or a baseball box score, you can learn to read basic financial statements. If you can follow a recipe or apply for a loan, you can learn basic accounting. The basics aren’t difficult and they aren’t rocket science.”
Balance Sheets
The basic formula for a balance sheet is Assets = Liabilities + Shareholder Equity. They are called “Balance Sheets” because the assets are perfectly balanced, or equal to, the total liabilities and shareholder equity. A balance sheet is a snapshot in time of the financial picture of the company.
Assets are usually categorized as current assets, property and equipment, and other assets. Current assets include cash, bank deposits, saleable inventory, and any bonds or stocks that are readily saleable for cash. Current assets are items that will be held for less than one year. Property and equipment includes the building (if owned by the practice), improvements to the building, furniture and fixtures, and equipment owned by the practice. Other assets are anything else of worth in the practice, including “Goodwill”.
“Property and equipment” and “other assets” are also subject to depreciation. Depreciation refers to two different but related concepts. First, the value of an asset (such as a computer) will fall with time and usage. Second, the allocation of the cost of the item can be written off for tax purposes over time, with the time frame varying depending on what the item is and the tax laws currently in place. The faster an item can be depreciated, the sooner the business can reclaim the cost of the item.
Income Statements
An income statement is a financial report that shows gross revenues, less expenses, equals net income for a fixed period of time (monthly, yearly, etc.). Gross revenues will include all monies brought in by the business, such as sales of goods and services and interest, less any discounts or returns.
Cost of goods is typically considered a “variable” expense for eyecare practices, since the costs will vary with the amount of goods sold. Other expenses are usually considered “fixed” expenses, since they remain relatively constant year to year regardless of the amount of goods sold.
Expenses
Accountants generally like to list expenses in alphabetical order (example: Advertising, Bank & Credit Card Fees, Books, etc.). This is not the best way to list expenses for an eye care practice. Expenses should be categorized into the following: Cost of Goods, Staff Compensation, Occupancy, Marketing, Equipment, General Office, and Net Benefit to Owners. By organizing the expenses into these categories on a monthly basis it makes the management of the business much easier. Watch for any significant changes in the categories on a monthly basis, and determine why the changes occurred. You don’t want to be surprised by unforeseen changes you don’t understand.
Financial statements might not be the sexiest part of the business, but they are certainly among the most important. If you don’t know the numbers, your profitability can disappear in a hurry!