If you’re seeking low cost funds to grow your business, lenders will ask for a number of financial documents to assess the overall health of your company.
Two documents business owners are frequently asked to produce is an up-to-date balance sheet along with an income statement. Although they seem similar, each document reveals different information to lenders about your business. Here is information about each and why you need to have both on hand when approaching a lender.
What is a Balance Sheet?
According to the SBA, this statement provides an overall financial snapshot of your small business. As an equation, it looks like:
- Assets Cash is considered the most liquid of all assets. Long-term assets, such as equipment or real estate, are less likely to be quickly converted into a current asset, such as cash. Current assets are any assets that can be easily converted into cash within a calendar year. Examples of current assets are checking or money market accounts, accounts receivable and notes receivable that are due within that year. Total assets represent the total dollar value of both short-term and long-term assets.
- Liabilities Liabilities include operational costs, debt and material expenses. In general, the lower your liabilities, the greater the value of your business. Current Liabilities may include accounts payable, credit card bills that are due, lines of credit and taxes owed. Fixed Liabilities may include long-term mortgages, car loans and property or building mortgage expenses.
- Net Worth This figure can be computed relatively easily using your company’s liabilities and assets with the above formula – subtracting the total liabilities from the total assets to get the net worth of the business.
What is an Income Statement?
Also known as a “Profit and Loss Statement,” this document measures a company's financial performance over a specific period of time and includes all revenue and expenses.
An income statement shows lenders a company’s ability to generate profit by increasing revenue, reducing costs or both.
For in-depth information about calculating this financial document, review this post on the SmartBiz Small Business Blog: How To Prepare An Income Statement
The Difference Between an Income Statement and a Balance Sheet
The differences between the balance sheet and income statement are outlined below:
- Timing The balance sheet reveals the status of an organization's financial situation as of a specific point in time, while an income statement reveals the results for a period of time.
- Items Reported The balance sheet reports assets, liabilities, and equity, while the income statement reports revenues and expenses.
- Uses The balance sheet is used to determine whether a business has sufficient liquidity to meet its obligations, while the income statement is used to examine results, and find any operational or finance issues that are in need of correction.
How Are They Used?
The balance sheet shows if a business is over-leveraged and can handle additional credit. The income statement is used to decide whether a business is generating a sufficient profit to pay off liabilities.
Which is More Important?
According to Investopedia, the importance of these two reports varies. However, but the general view is that the balance sheet is second in importance to the income statement, because the income statement reports the results of the enterprise.
It’s important to have a firm grasp on both of these financial statements when you begin the loan application process. Look to your accountant or another financial professional to help pull together the numbers if you need help in this area. Be sure to have both of these documents up-to-date so you can easily upload and share with lenders.