When you’re running any business, knowing how to read financial statements is king. This is especially true in the world of e-commerce with it’s notoriously low margins added to all of its complicated bookkeeping nuances. Inventory must be counted, expenses must be tracked and knowing your numbers can make or break you.
If you’re a young e-commerce company, cash flow management is especially key. Mastering this will not only help keep your business healthy, it’s essential for raising capital, attracting good business partners and selling your business.
You can’t proactively manage what you can’t see, and this starts with maintaining clear financial statements and knowing how to read them. Here’s how to get started with reading the three most important financial statements in e-commerce: Balance Sheet, P&L (aka Profit & Loss Statement or Income Statement) and Statement of Cash Flow. While each statement provides a critical angle from which to view your financial picture, it’s also vital to understand the relationship between these three reports in order to become and remain a successful e-commerce business.
How Do I Read A Balance Sheet?
A balance sheet is a record of your business’s overall financial health, using the simple equation:
Assets = Liabilities + OE (where OE stands for “owners equity”)
This is typically a two-column spreadsheet in which each column should balance out the other (hence the name “balance sheet”).
The assets column includes:
- cash funds
- accounts receivable (AR)
- outstanding invoices
In the world of e-commerce, the greatest assets are commonly cash and inventory. The liability column often includes:
- debts such as credit card balances
- small business loans
- vendor bills
When reviewing your balance sheet, it’s important not to just look at profitability and available cash, but to also identify areas of wasted spend. You also need to ensure you have enough cash to operate (which you will determine with the help of your Statement of Cash Flow, which we’ll talk about below). If you do find that you need more cash flow, review your balance sheet for areas where you can increase cash flow, such as collecting on accounts receivable or selling assets.
Need more help with cash flow? Check out our “How to Forecast Cash Flow in Your Amazon Business” post.
How Do I Read A P&L?
If your balance sheet is the scoreboard, the P&L is a play-by-play of the actions you took to get to your current financial picture. Your P&L documents all of your operating and non-operating income. Operating income is money earned from your primary business activities (such as product sales), while non-operating income is money received by other means (such as investment returns or sale of business equipment).
More than just accounting your income, the P&L takes your total revenue, then subtracts from it the cost of goods sold to provide you with your gross profit. From there, operating expenses and taxes are deducted to provide you with your net profit or net loss.
How Do I Read A Statement Of Cash Flows?
As an e-commerce company, this report is the big one, because income fluctuates while expenses remain steady. The statement of cash flows helps ensure you stay on top of it all and remain operational by showing you how much cash you have on-hand at the time of reporting.
Key point: Having enough cash on-hand is not the same as being profitable, and this is the statement that breaks down the difference. It is possible to be profitable and not have adequate cash flow at a given time. Similarly, it’s possible to have cash flow in the moment, but not be profitable when looking at the bigger financial picture.
To properly read a cash flow statement, consider this formula:
Cash on-hand = operating activities + investment activities + financing activities
Here’s a breakdown of what each of these activities mean:
- Operating activities are how much money is spent or made day-to-day
- Investment activities represent cash paid for long-term investments such as property and equipment
- Financing activities is cash received from or paid to lenders, creditors and investors
Cash Flow & E-commerce
Because cash on-hand can take the form of inventory or flexible cash, understanding your statement of cash flow is critical for running a healthy e-commerce business. This means not getting distracted by P&L alone, understanding inventory and assets versus flexible cash, and learning from your mistakes. To learn more, check out 3 Reasons Why Understanding Your Cash Flow Will Either Make or Break Your Business.
Need help generating financial statements? Contact us now for a free Amazon accounting consultation!