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Understanding Financial Statements

Matthew Jacob, MAcc

9/19/2025 - 8 min read

Understanding Financial Statements
Financial statements can feel intimidating, but the goal here is not to overcomplicate something that often seems confusing. A good way to think about it is this:
  • The Balance Sheet shows your current state of health.
  • The Profit & Loss (Income Statement) is your indicator of growth or decline over time.
  • The Cash Flow Statement is what you use day-to-day to keep the business running.
With that simple framework, financial reports start to feel less overwhelming and more like practical tools for managing your business. At our firm, we often walk clients through these reports, and once they understand them, they gain confidence and clarity in running their business. Here’s a beginner-friendly guide to the 3 most important financial statements (plus one supplemental report we recommend):

1. Income Statement (Profit & Loss Statement)

The income statement shows your revenue, expenses, and profit (or loss) over a period of time—usually monthly, quarterly, or annually.

Key sections include:

    + Revenue (Sales): How much money your business brought in.
    - Cost of Goods Sold (COGS): The direct costs of producing your goods or services (materials, labor tied to production, etc.).
    = Gross Profit: Revenue minus COGS—this shows how much you make before overhead expenses.
    - Operating Expenses: What it costs to run your business (rent, payroll, marketing, utilities).
    =>Net Income (or Net Loss): What’s left after subtracting all expenses from revenue.

Why it matters: The income statement tells you if your business is profitable. By looking at COGS and gross profit, you can also see whether your pricing and production costs are set at the right levels. This statement is essential for identifying areas where you may need to reduce costs or boost sales.

2. Balance Sheet

The balance sheet is like a snapshot of your business’s financial position at a single point in time. It shows three main categories:

A = L + E

  • Assets: What your business owns (cash, equipment, inventory).
  • Liabilities: What your business owes (loans, accounts payable, credit cards).
  • Equity: What’s left for the owner(s) after liabilities are subtracted from assets.

Why it matters: The balance sheet shows your company’s overall stability—your financial health at this exact moment. It helps answer questions like: Do we have enough assets to cover our debts? Are we building equity in the business over time?

3. Cash Flow Statement

Even profitable businesses can run into trouble if cash isn’t managed properly. The cash flow statement tracks how money is moving in and out of your business. It’s typically divided into:

  • Operating Activities: Cash from day-to-day business operations.
  • Investing Activities: Cash used to buy or sell assets like equipment.
  • Financing Activities: Cash from loans, credit, or investments.

Why it matters: This report helps you see if you have enough cash on hand to cover expenses, payroll, and growth opportunities. Think of it as your day-to-day financial survival tool.

4. Accounts Receivable Aging Report (optional, but recommended)

The accounts receivable (A/R) aging report shows which customers owe you money, how much, and how long their invoices have been outstanding.

Why it matters: Slow collections can strangle your cash flow. By reviewing this report regularly, you can spot late-paying customers and take action before unpaid invoices pile up.

Summary

Understanding financial statements doesn’t have to be overwhelming. Remember this simple framework:

  • Balance Sheet = current health
  • Income Statement = growth or decline over time
  • Cash Flow Statement = daily financial survival
  • A/R Aging = who owes you money

When you know how to read these tools, you can make smarter business decisions and plan for growth with confidence. Our team specializes in helping business owners not just prepare these statements, but also understand and use them to their advantage.

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