Introduction to Financial Statements and Their Use Alison

Introduction to Financial Statements and Their Use Alison De Marree Winter 2014

Standard Financial Statements 1. Balance Sheet 2. Income Statement (also known as P&L: Profit & Loss) Cash Flow Statement 3.

A Balance Sheet is the first measure of your financial condition �Assets (Own) = Liabilities (Owe) + Net Worth or Owner's Equity

Balance Sheet or Equity Statement Shows the value of items owned (assets), all claims against the business (liabilities) and the difference (net worth) at a point in time (snapshot) Must balance Assets(Own)=Liabilities(Owe)+Net Worth(Owner's Equity)

The Balance Sheet Liabilities Assets Checking Account $ 5, 000 Tractor $30, 000 Barn & Land $60, 000 Total Assets $95, 000 Accounts payable Tractor Loan Farm Mortgage $ 3, 000 $12, 000 $30, 000 Total Liabilities $45, 000 Net Worth (Assets – Liabilities) $ 50, 000

What other things belong on the balance sheet? �Assets: � Liabilities: �? � Current? (Less than 1 yr ) � Intermediate? (>1 yr < 10 yrs) �? � Long �? Term? (=> 10 yrs) � Current? � Intermediate? �? � Long �? Term?

Using the Balance Sheet in Management � To set goals � To observe trends: � Compare business to itself � Compare to other businesses � To change the business (grow, shrink, change emphasis) � Review efficiency of investment

Income Statement to measure profit, a measure of performance, over a period of time � Used � Profit ◦ Total value of goods and services produced minus the value of resources used in production (a residual concept)

Profitability � is the return to labor, management and capital inputs provided by the owner(s) / operators and families � is the total value of production minus the total cost of production � must be positive for the short-term improvement in the financial condition of the business and for long-term survival

Profit = Total value of production - Fertilizer Money received for apples Rented out bee hives for 2 weeks Apples in storage awaiting sale Money owed for cabbage by restaurant Costs of Resources Hired labor minus Custom plowing Consulting fees Interest payments

Cash vs. Accrual Accounting � Cash accounting ◦ records income when you receive it and expenses when you pay the bill ◦ ease of use for tax management purposes � Accrual accounting ◦ records income when produced, expenses when allocated to production ◦ time and effort required

Profit = Total value of production - minus Costs of Resources

Cash Flow Statement � Purpose: To insure that your other financial statements are accurate!!! � Summarizes all flows of cash into the business (or family) and all flows of cash out of the business ( or family) � Covers � Has a period of time (monthly, annually) beginning and ending cash on hand (cash, checking, savings) > or = 0

Cash Inflow Cash Outflow Cash Farm Receipts Non Farm Income Money Borrowed Sales of Assets Cash Farm Expenses Farm Business Principal Payments Capital Purchases Withdrawals for Family Living Expenses Beginning Cash + Cash Inflow = Cash Outflow + Ending Cash

Managing Cash Flows � Cash inflows must equal cash outflows. What about imbalances? � Debt is a major means of cash flow management ◦ change repayment rate ◦ borrow new money ◦ accounts payable � Adjustments to items and management

Enhancing Cash Flow � generate � reduce � pay more farm receipts farm expenses debt more slowly, stretch out payments, etc. � reduce family living expenses (or draw) � sell farm inventory � sell capital assets � buy fewer new capital items/use credit

Summary � Measuring financial condition, and performance are keys to achieving desired results � Three financial statements ◦ Balance sheet (condition, position) ◦ Income statement (performance) ◦ Cash flow statement (performance)