Your balance sheet is a snapshot of your assets and liabilities at a point in time. A simple understanding of your shop’s balance sheet will give you a great periodic picture into the business, allowing you to track changes in balances over time and understand where your money is coming from and where it’s tied up.
In our experience with shops, distributors, and manufacturers, Driven Performance Advisors found four key areas that proved most beneficial for business owners to understand: valuation, liability visibility, collections, and capitalization of equipment.
For some aftermarket business owners, the ultimate goal is to exit the business via a sale. Your balance sheet is the first place to look for informing yourself on the value of your operations. Your company’s assets minus your company’s liabilities equals the “book value” of your business, which you can use as a basis for building the “fair value” of your business for the purpose of a sale.
Assuming you aren’t buried in debts and you have a profitable book of customers, a strong brand, experienced staff, established systems and processes, and documented intellectual property, the value of your business will be substantially higher than the “book value” on the balance sheet. In order to determine the difference between your book value and your fair value, take a look at our DPA Weekly article covering valuation boosting assets to include in your calculations.
When you’re planning your budget and cash flow forecast, don’t forget to consider all obligations tied to your shop. Did you finance your lifts? Do you have an account with the paint store or parts store? Are you paying off the shop improvement loan you took on when you expanded? Have you remembered all your credit cards?
Get in the habit of recording all liabilities as soon as you incur them. Ghost debts have the potential to destroy your credit and prevent you from getting financing in the future. Don’t risk it – record all liabilities on the balance sheet. If you have accounts open with your suppliers, keep track of balances often. Establish a regular payment schedule to keep the balances from growing out of proportion and giving you the illusion of having more cash than you’re really entitled to. Don’t rely on your memory to capture all your obligations.
If you work on large jobs, such as wraps, restorations, and full engine builds, you depend on progress payments to maintain cash flow. As your volume increases, make sure you keep track of when all those progress payments are due.
Your balance sheet can help you with this. Record the timing and amounts of all future payments you expect from customers. Periodically review your accounts receivable to make sure your customers are keeping up with their payments. Remind them if they’re falling behind to help you keep up with your cash flows.
Making big purchases of equipment that you’ll use for years to come? Keep them off your income statement. When you buy equipment that has a useful life of over a year (computers, lifts, panel stands, engine hoists, tire machines, etc) capitalize the purchases and record them as assets on your balance sheet. Purchases of assets like these are not expenses.
When you go to look at your income statement in a year when you make a big purchase of equipment, you’ll probably find that you were profitable despite running negative cash flow. This is correct – you’ll be using those assets for years to come. It would be inappropriate to record the entire expense in the purchase year.
As you capitalize assets, you’ll need to estimate depreciation. How many years will you use your equipment for? The IRS uses between 3-7 years for the useful lives of automotive equipment. Each year of your equipment’s useful life, you’ll recognize a portion of the “depreciation” expense associated with each piece of equipment. This allows you to spread the expense of using the asset over the time you use it, which is more appropriately reflected on your income statement.
Used in connection with the other financial statements (income statements and cash flows) your balance sheet is a tool that helps with selling, planning, and facilitating a successful business. If you’re doing your own accounting, get yourself a good understanding of how these statements work. If you have an accountant, have them help you read your financial statements so you can get the most out of their fee.
Driven Performance Advisors uses CPA-level experience to help shop owners understand and get the most out of their accounting. Get in touch for a free 1-hour consultation at drivenperformanceadvisors.com.