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Learn the importance of the order of financial statements in small business accounting.
Last week we outlined the four primary types of financial statements. These statements include the cash flow statement, the balance sheet, income statement, and the statement of retained earnings. These statements are essential for assessing the current state of your business’s finances, as well as projecting future earnings. However, to accurately receive your financial information, you must process your financial statements in a specific order. Read on to learn what that order is and why it is important.
First: The Income Statement
The first in the order of financial statements is the income statement. This breaks down your company’s revenues and expenses. You need to prepare this first because it gives you the necessary information to generate the other financial statements. Making your income statement first lets you see your business’s net income and analyze your sales vs. debt.
When creating the statement, list the revenues first. Then, subtract your expenses from the revenue. The bottom line of your income statement will let you know whether you have a net income or loss for the period.
Second: Statement of Retained Earnings
Next, in the order of financial statements, is the statement of retained earnings. Use your net profit or loss from the income statement to prepare this next statement. After you gather information about the net profit or loss, you can see your total retained earnings and, if applicable, how much you will pay to investors.
Third: Balance Sheet
Your balance sheet is a complete list of your assets, liabilities, and equity. Your total assets must equal your total liabilities and equity on the balance sheet. You can use the information from your income statement and statement of retained earnings to create your balance sheet. As you create your balance sheet, include any current and long-term assets, current and noncurrent liabilities, and the difference between your assets and liabilities, or equity.
Fourth: Cash Flow Statement
The last item in the order of financial statements is the cash flow statement, processed last because you use all of your financial data from the other three statements to create the cash flow statement. This statement will show you how cash has changed in your revenue, expense, asset, equity, and liability accounts during this accounting period.
After you process all of your financial statements, you can use the information to track your business’s financial health and make smart, informed financial decisions for your company.
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