The Magic of Accounting – Demystifying The Fundamentals

By July 12, 2017Blog

Understanding Your Financial Report

Financial reporting is a crucial component of business management and helps to monitor your business performance against your goals and expectations.

We take this opportunity to share some simple tips to help demystify your Balance Sheet, Income Statement (Profit and Loss), and Statement of Owners Equity (also called Statement of Change in Owners’ Equity).

What is a chart of accounts?

In any accounting system, different accounts are used to identify and categorise transactions that bring money in, and take money out of your business.

Different groups of accounts are combined and used to construct financial statements.

These accounts are the backbone of accounting your system and separate out every transaction into one of six general categories:

  1. Income
  2. Expenses
  3. Cost of Sales
  4. Equity
  5. Assets and;
  6. Liabilities.

These words will look very familiar to anyone using an accounting system daily, and we explain each of each of these categories below:

Understanding your Income Statement (also known as “Profit & Loss”)

Income

Money that is earned (comes in) to the business through Sales. It also includes interest and dividends earned through investment activity.

Expenses

As the name suggests, this is money spent/remitted (going out) of the business in the course of running your business e.g. rent, electricity, wages, electricity and many others.

Cost of Sales (also known as “Cost of Goods Sold” or “COGS”)

This is a special sort of expense account that helps to capture the cost of inventory that you sell.

E.g. If I sell something in my business for $10 that I bought from my supplier for $5, then my Cost of sales is $5.

An understanding of Cost of Sales is crucial for a correct and adequate setting of your prices and profitability of your business, as well as forecasting for purchasing of replacement stock. In a manufacturing environment where there are many different types of inputs that go into an item of finished inventory, it is important to make sure all of these inputs are being correctly captured.

Understanding your Balance Sheet (also known as “Statement of Financial Position”)

Assets

Basically, assets are everything that your business owns/controls that can be given a value. This includes plant and equipment, motor vehicles, inventory, accounts receivable and even the amount of cash held in various bank accounts. These items don’t necessary have to be tangible, as it is possible to put a value on your intellectual property including trademarks, patents, etc.

Liabilities

Everything that your business owes that can be given a value. Examples include bank loans, bills that need to be paid (including outstanding wages and tax). These accounts are important to make sure that your business is putting aside enough money so you can pay your bills when they fall due.

Equity

The amount of money that the business owners have contributed or left in, this includes:

  • Money put into the business (not loaned, Shareholder funds)
  • Money left over after paying all the bills (i.e. profit)

Note: Profits will increase equity over time, whereas losses will decrease equity over time.

How does Advivo help?

At Advivo Accountants and Advisors, we have specialist knowledge and sophisticated tools at our disposal that help uncover the hidden meanings in your financial statements. In modern accounting systems, tracking categories are particularly useful to help group together transactions that relate to a specific product, service or activity.

Knowledge is power, and at Advivo, your dedicated advisor can help you unlock knowledge within your business. Our Future Fitness and Business Pulse reports provide valuable insights that empower you to make strategic decisions. Together we will take your business to the next level.

YOU MIGHT ALSO BE INTERESTED IN:

Share This Post:
Social media & sharing icons powered by UltimatelySocial