You are about to take the exciting but nerve-wracking step of buying a small business. There are several advantages to purchasing an existing business, such as the availability of the sales history, the potential for growth, and the existing infrastructure and customer base. Your passion, skills, and expertise drive your determination to pursue a path to owning your own business.
But you can’t let your heart guide your decisions because buyer’s remorse is the last thing you need or want. Doing your due diligence is an absolute must before jumping in to buy a retail business. Let’s look at a balance sheet and how it reflects the financial health of a business.
A balance sheet provides information on what resources are available to a company and how they were financed. The bottom line is that the balance sheet will help determine whether the business is a wise investment:
It is time to break down what is included in a balance sheet and what each section means. The balance sheet provides significant insight into a business’s fiscal health. A balance sheet has three sections: assets, liabilities , and equity:
Assets are anything owned by the company that could be converted into cash, called liquidation. Assets are usually positives on the balance sheet (though there are such things as “contra assets”) and are divided into current and noncurrent assets.
Liabilities are what a company owes, are obligated to pay, and are an inverse of the assets. These are tallied against the balance sheet. Liabilities are also current or noncurrent.
The owner’s equity is what is left over when you subtract liabilities from assets. In summary, owner’s equity is anything belonging to the business owners after any liabilities are accounted for.
As important as the balance sheet is in evaluating a small business, you should consider other financial statements/documents in tandem with the balance sheet. As a whole, a balance sheets and financial statements provide the most extensive view of a business’s current viability.
Profit and loss statements are an overview of how a business is doing over a period of time. A profit and loss statement is also referred to as an income statement. This statement shows the net earnings or losses, in other words, how profitable the business is.
Cash flow statements look at the money going in and out of business and can tell if the business is generating enough cash to pay expenses. The basic components of the cash flow statement are any short or long-term investments, financing (loans ), and operating costs (the discrepancy between whether the gap between expenses and income is growing).
Now you can see how vital the balance sheet is when considering the purchase of a small business. But don’t forget other factors as you assess a business’s viability.
Consider the history of the business, including longevity, location, and employees. What about the customer base and the prospect of attracting new customers? What is the outlook for this type of business and its current reputation in the community?
Use all the resources at hand, including the balance sheet, to make an informed and practical decision you can be confident in.
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