What's Your Financial Understanding?

balance sheet boutique business boutique business tools boutique ownership education cost of goods sold ecommerce goal setting growth inventory inventory genius open to buy product-based business profit loss statement May 13, 2024
Profit Strategist, Ciara Stockeland, behind counter of inventory based business working on laptop computer.

Ciara Stockeland behind ring light writing on flip chart.In June 2023, I had the pleasure of discussing financial understanding with the entrepreneur center and their clients. Today, I'm excited to bring that workshop and conversation to you.

(You can also chose to listen to this workshop by clicking here.)

So, grab a notebook, a pen, and get ready to take some notes as we delve into the world of understanding your financials. For many of us, numbers are not our favorite part of our business. However, some of us, as business owners, love diving into the numbers.

For most of us, we really enjoy what we actually sell or how we serve. There's such a wide gamut when it comes to small business. You may have an inventory-based business, be a coach or consultant, or offer services like insurance services.

Many times, we get into business because we love what we do as a craft, or we love what we sell, or we have opened an inventory-based business based on a need we identified in our community.

But the numbers are a very real part of why we are and how we can stay in business. Today, I want to break down financials and help everyone understand what the financials say about your business, and demystify financials and numbers.

I hope you come away feeling more comfortable with the numbers in your business, or just much more comfortable starting to dive in and learn the numbers of your business. I seek to empower every single business owner and give you the confidence to create a profitable business.

I've been in business for multiple years, with several different businesses that I've grown and sold. There were many years at the beginning where I felt very not confident and shy when it came to that side of my business. That just caused a lot of anxiety and really made me feel like a fraud, if you will.

Today, I'm excited to walk you through some financial strategies for maximizing profit. Understanding profit is crucial because it reveals where all the money is going and why you may struggle to keep money in your business. I hear from business owners saying:

"I'm making a lot of money, but where is it all going?"
"I get financials from a bookkeeper, but I don't understand them."
"I look at my profit and loss, or I give them to my accountant, and they say I owe money, but I don't have it. Where is it going?"
Once we grasp our financials, we can truly comprehend our profit, and that's what we'll explore today.

Ciara Stockeland at counter of retail ship working on computer.I often tell entrepreneurs that I know their "dirty little secret." It's the hidden truth that, despite outward appearances of success—customers, growth, and a functioning concept—we're always stressed, overworked, and seemingly out of money. This secret is something we keep to ourselves, not sharing it with fellow entrepreneurs or even friends and family. I've experienced this myself. In 2015, I was running a seven-figure franchise brand, with multi-millions coming in, yet I was constantly out of money. Despite appearances, there was a disconnect between the cash flow and actual profit.

Profit is perhaps the most crucial number in business because, ultimately, profit is what remains for us. It's what allows us to pay ourselves, settle debts, and sustain our businesses.

A few years ago, my family and I spent Christmas at the beach, where we worked on a puzzle throughout the week. I thought it would be a great way to connect and spend time together. I bought a beautiful oceanscape puzzle, envisioning a relaxing week of puzzle-solving by the sea. However, when I opened the box, I was met with a sea of tan and blue pieces, which seemed overwhelming. I realized that this puzzle would take much longer than a week to complete, and I doubted if anyone would want to help.

I had a choice: abandon the puzzle and my initial goal, or dive in and start sorting through the pieces. I chose the latter. While I didn't finish the puzzle by the end of the week, I felt accomplished because I had started the process.

Business numbers are much like a puzzle. The first step is to flip them over to understand what's in front of us. Just as with a puzzle, we need to look at the size and type of pieces. We need to envision the end result—what success looks like to us. This could mean covering our salary, paying for family vacations, funding our children's education, or simply taking a decent paycheck. Write down your vision of success.

Ciara Stockeland working with business owner behind computer screen.Next, start flipping over those pieces or numbers. Begin by identifying the square edges and corner pieces—the foundational elements. In business, this translates to understanding your profit and loss statement and your balance sheet. However, today, we're going to focus on the cash flow statement, which is the third piece of this financial puzzle.

The cash flow statement provides a snapshot of how money flows in and out of your business over a specific period. It's crucial for understanding your business's liquidity and financial health. By dissecting and understanding these financial statements, you'll be better equipped to navigate your business's financial landscape and work toward your vision of success.

If you find yourself wondering where all your money is going, think of your business numbers as a puzzle. Each financial figure is a piece of that puzzle, and by understanding and analyzing them, you can uncover the full picture of your business's financial health.

Let's dive into the profit and loss statement and the balance sheet to get a comprehensive understanding of these financial documents. The cash flow statement, while important, can be overwhelming at times. We can save a deep dive into it for another day, as our focus today will be on the profit and loss statement and the balance sheet.

The profit and loss statement, often referred to as the P&L, provides a snapshot of your business's financial performance over a specific period. It's like looking in the rearview mirror—it shows us what's already happened in our business. The P&L consists of five main components:

  1. Sales: This section includes any revenue generated from sales of products or services. It represents the total amount of money that has come into your business as a result of sales.
  2. Cost of Goods Sold (COGS): If you're in an inventory-based business, the COGS represents the direct costs associated with producing the goods sold. For example, if you sell a shirt for $30 that cost you $10 to purchase, the $10 would be considered a COGS. If you're in a service-based business, COGS may include materials, subcontractor costs, or labor directly related to providing the service.
  3. Gross Profit: This is calculated by subtracting the COGS from the total sales revenue. It represents the amount of money left over after deducting the direct costs of producing the goods or services sold.
  4. Operating Expenses: These are the costs incurred in the day-to-day operations of the business, such as rent, utilities, salaries, and marketing expenses. Operating expenses are subtracted from the gross profit to calculate the operating profit.
  5. Net Profit: Also known as the bottom line, this is the final amount left after deducting all expenses from the total revenue. It represents the overall profitability of the business.

Next, let's discuss the balance sheet. The balance sheet provides a snapshot of your business's financial position at a specific point in time. It consists of three main components:

  1. Assets: These are items of value owned by the business, such as cash, inventory, equipment, and accounts receivable.
  2. Liabilities: These are obligations owed by the business, such as loans, accounts payable, and accrued expenses.
  3. Equity: This represents the owner's stake in the business and is calculated by subtracting the total liabilities from the total assets.

Understanding these financial statements is crucial for making informed decisions about your business's finances. By regularly reviewing your profit and loss statement and balance sheet, you can gain valuable insights into your business's financial health and make strategic decisions to improve profitability and growth.

Returning to the example of purchasing shirts for our retail store, if it cost us an additional $20 to have the shirts shipped, we would include this shipping cost in our cost of goods sold. So far, in our profit and loss statement, we're looking at past transactions. For example, let's say we made $4450 in sales for a certain period.

Now, let's discuss gross profit, which is the difference between sales and the costs associated with those sales. It includes the cost of materials and subcontractors. After deducting the cost of goods sold from the sales, we get our gross profit.

The next section of the profit and loss statement covers all expenses. It's important to note that there are fixed and non-fixed expenses. Fixed expenses are those that remain constant, such as rent, while non-fixed expenses can be adjusted, like travel or marketing costs. Subtracting all expenses from the gross profit gives us our net income or profit.

The net income is the most important number on the profit and loss statement. It represents what's left after all expenses are deducted from sales. This number is more important than the top-line revenue because it reflects how much money you're actually keeping.

Fingers typing on calculator next to laptop computer.Let's shift our focus to the balance sheet, which provides a snapshot of your business's financial health at a specific point in time. Unlike the profit and loss statement, which shows past transactions, the balance sheet shows the current status of your business. It consists of two main sections:

  1. Assets: These are items of value owned by the business that can be converted into cash. This includes cash in checking or savings accounts, as well as other assets like equipment, trademarks, or website domains.
  2. Liabilities: These are the obligations of the business, such as loans or accounts payable. Liabilities are subtracted from assets to determine the owner's equity, which represents the owner's stake in the business.

Understanding your profit and loss statement and balance sheet is essential for making informed decisions about your business's finances. By analyzing these financial documents regularly, you can gain valuable insights into your business's financial performance and make strategic decisions to improve profitability and sustainability.

When it comes to inventory purchases, it's important to note that the cost of inventory should not be recorded as an expense on the profit and loss statement right away. Instead, the cost of inventory should first be recorded on the balance sheet as an asset. This is because inventory is an asset until it is sold or converted into cash.

Here's how it works: when you purchase inventory, you would enter that bill into your accounting system, and the cost of the inventory would be recorded as an asset on your balance sheet. Once the inventory is sold, the cost of the inventory sold would then be moved from the balance sheet to the profit and loss statement as the cost of goods sold.

This approach ensures that the asset side of your balance sheet remains healthy and that your inventory is properly accounted for until it is sold.

Speaking of the balance sheet, let's dive a bit deeper into its components. The bottom section of the balance sheet is the liability section, which includes any obligations your business owes to others. This can include accounts payable, credit card bills, loans, or other liabilities.

It's important to manage your liabilities carefully and ensure that your assets outweigh your liabilities. This means having more in assets and cash than you owe in debts. This not only improves the financial health of your business but also makes it more attractive to investors and lenders.

At the very bottom of the balance sheet, everything is balanced out. This is where you'll find items like opening balance equity, which represents any initial investments you made in the business, and retained earnings, which are the profits of your business minus any distributions. This section ensures that your balance sheet remains balanced, with total assets equals total liabilities and equity.

Managing your balance sheet and profit and loss statement is crucial for understanding your business's financial health and making informed decisions. Using accounting software like QuickBooks or working with a bookkeeper or accountant can help you keep track of your financials and ensure that your balance sheet remains balanced and accurate.

Business owner merchandising colorful array of shorts in retail clothing shop.Now, let’s delve into where profit comes from. Profit arises from the difference between our sales and our cost of goods, making it essential to first focus on our gross profit.

When analyzing your gross profit, look closely at your margin. Are you charging enough for your products or services compared to what they're costing you? If profitability is a challenge, or if you simply want to enhance it, start by examining your gross profit or margin.

Consider the following questions:

  • Are your prices sufficient relative to your product or service costs?
  • Are you overspending on contractors?
  • Are your supply costs too high?

It's crucial to run a business that drives profit. To achieve this, identify areas to cut expenses. Conduct an audit of your expenses—are there unused apps, excessive payroll hours, or unnecessary travel expenses? Perhaps it's time to renegotiate leases or seek better prices for office supplies.

You have the power to control three of the five items on the profit and loss statement without acquiring additional customers. By increasing gross profit and effectively managing expenses, you can enhance net profit without expanding your customer base.

So, what should you focus on regarding your finances?

  • Record your sales accurately using the best platform for you, such as QuickBooks or Excel.
  • Analyze your revenue and associated costs.
  • Be honest about your spending.
  • Record your assets accurately, including inventory and other valuables.
  • Record your debts accurately, detailing all outstanding obligations.

Whether you look at your finances or not, the numbers remain the same. However, by examining them, you can develop a plan. If you're losing money, facing this reality is the first step toward improvement.

Set a goal and create a budget based on your financial realities. Avoid simply chasing sales—instead, run your business like a business. Accurate books are essential, whether you manage them yourself or hire a bookkeeper.

Consider engaging a profit strategist, someone who can interpret your financials and provide strategic insights. Stop playing store with your business—take charge of your finances and seek to understand them. Many tools and resources can help you on this journey!

Connect with me on LinkedIn, Facebook, Twitter, and Instagram, and follow my YouTube channel for videos on financial management and profit strategies. Remember, if your business isn't profitable, it's time for a change. Use your finances as a tool and make them a part of your regular routine.

To connect with me or listen to my podcast, visit ciarastockeland.com. Follow me on social media at Ciara Stockland—I'd love to connect with you.

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