Liquid Or Not?

small business accounting advice

We are all having to change how we do things in this time of lockdown. My courses are now delivered online and I gave some finance training last week to one of my clients, The Rape and Sexual Violence Project.  Their work is always such a valuable service for children and adults of all genders who have been subjected to sexual violence and abuse, and even more so now than ever. One of the many things we covered was the importance of the balance sheet. As with all charities, it is critical that they understand their financial position, especially in times of uncertainty.

Maybe this is something you struggle with?

small business accounting advice

Hi, I’m Anna Goodwin – Author of five books, Director, Mentor, and Trainer for Anna Goodwin Accountancy.

Basically, I take the stress out of finances – both business and personal. From running my own business and helping others to run theirs, I know it’s important to be able to understand a set of accounts.

“Don’t ever let your business get ahead of the financial side of your business. Accounting, accounting, accounting. Know your numbers.”  – Tilman J. Fertitta

If you’re a director of a limited company you need to be able to understand your balance sheet.

This will give you confidence in the liquidity of your business:

  • you can pay your debts
  • your debtors are paying you as quickly as possible

A balance sheet is a financial statement that summarizes a company’s assets, liabilities and shareholders’ equity at a specific point in time; usually on the last day of a company’s financial year.

The top half of the balance sheet starts with the business’s assets (what the company owns). These are divided into fixed assets (e.g. computers and furniture), and current assets, which are assets that are more easily and quickly converted into cash, e.g.

  • Bank
  • Petty cash
  • Trade debtors (money owed by customers)
  • Stock
  • Prepayments (items paid in advance, for example, insurance paid for a year, but only half relates to this specific financial period – 50% would be prepaid)

The balance sheet then shows the business’s liabilities (what the company owes), which divide into current liabilities and long-term liabilities. Current liabilities are money due within a year e.g.

  • Tax bills
  • Money owed to staff
  • Trade creditors (money owed to suppliers)
  • Accruals (items outstanding at the period end, e.g. accountant’s bill not invoiced)

Long-term liabilities are due in more than a year, like a mortgage or bank loan.

There will then be a total of all the business’s assets less its liabilities. If the business were to sell all its assets off, and pay all its debts, anything left over would be available for the business’s owner(s) to draw out.

The total of the bottom half of the balance sheet will equal the top half. These two totals are called the balance sheet total.

A strong balance sheet is a positive balance sheet, with assets higher than liabilities.  It shows your business is financially viable.

Two ratios can be used to keep an eye on the strength of your business:

Accounts Receivable Age Analysis

Making sales is essential but you need to get paid for making those sales. It is important to age the debtors to see how quickly you are getting paid.

Accounts Receivable = (Debtors/Sales) x 365

The smaller this number the better, as this means you are getting paid quickly.

The Quick Ratio

This shows the financial stability of a business and is often calculated by banks if you request a loan.

Quick Ratio = Current Assets / Current Liabilities

Obviously, the higher your assets the better, and your business will look healthier.

A healthy quick ratio is greater than 1 and shows that a company has more cash available than the money it owes.

How great would it be for you to use this time to crack it so that when your business is back up and running you can use your figures to improve your business.  You will be able to ask your accountant questions with more confidence and you will be able to understand the answer!

Next week will be all about knowing your client.