Basic financial calculations include profit and loss account, balance sheet and cash flow statement. The profit and loss account indicates your company’s profits and losses, the balance sheet its assets, and the cash flow statement whether the company has enough money to make payments. You can follow your company’s liquidity, profitability and solvency with different indicators and key ratios.
If your company is experiencing financial difficulties, check out the Company’s financial difficulties and their prevention guide for advice on resolving them.
A profit and loss account indicates what your company’s profits or losses comprise during a certain period. The profit and loss account includes all your company's income and expenditure during the period. While the length of the period may vary, the profit and loss account prepared as part of the company’s financial statements always covers the financial year. Provisions on the content of the official profit and loss account are laid down in the Accounting Act and Accounting Decree.
The profit and loss account indicates your company’s turnover, where the company has spent its money, and how much profit or loss your company has made. Indeed, the profit and loss account provides information of what has happened during the period from the perspective of the profitability of your company’s operations. You can examine the profitability of your company from the section showing the profit for the financial year.
Note that even though the profit and loss account reveals a lot of necessary information on your company’s finances, it does not provide detailed information about your company’s exact assets. To find out this information, you must familiarise yourself with your company’s balance sheet.
For help in interpreting the profit and loss account, contact your accountant or the business development company from your region.
The balance sheet shows your company’s assets and liabilities, and equity capital on a specific date. This date may be the last day of the month or the last day of the financial year. This means that although your company’s assets and liabilities change constantly, the balance sheet shows the situation on one particular day. Provisions on the content of the official balance sheet are laid down in the Accounting Act and Accounting Decree.
The balance sheet has two, equally sized sections. The ‘Assets’ section indicates your company’s assets. The assets include your company’s money, storage and equipment.
The ‘Equity and liabilities’ section reveals how your company's assets have been financed. Equity and liabilities include the capital you have invested in your company, bank loans and tax in default.
The final sum of the assets section indicates the capital tied up in your company, i.e. your company’s asset situation. You should also carefully examine the item describing equity capital. If the equity capital is negative, your company’s liabilities exceed its assets.
For help in interpreting the balance sheet, contact your accountant or the business development company from your region.
The cash flow statement indicates your company’s liquidity. The statement allows you to prepare for financing gaps, which may occur when you are starting your business operations, for instance, as your company faces expenses before it is making profit.
The cash flow statement also serves as help for your sales. It indicates how much your company must sell its products to cover its expenses. The cash flow statement also helps you company determine a suitable growth rate without putting its capacity to cope with everyday expenses at risk.
The statement consists of three cash flows. You can determine your cash flow from business operations by extracting purchases and other cash outflows from your sales and other cash income obtained from normal, daily operations. Cash flow from investments is typically negative and indicates how much money your company spends on investments. Cash flow from financing indicates changes in your company’s equity capital and liabilities, for instance, how much loan your company has taken out and paid back.
When you add the cash flows together, you find out how much money is in your company's cash reserves.
Your company must be capable of coping with paying ongoing charges every day. If you cannot pay charges such as your employee’s salaries or your company’s purchases, your company may end up becoming insolvent. It is important to examine your liquidity situation when you are planning, for example, investment or taking out a loan.
Even though you can use a cash flow statement to determine your company’s liquidity, there are also other indicators for measuring it. Quick ratio (also known as the acid-test ratio) and current ratio are the best-known of them. They show your company’s liquidity on the basis of the balance sheet on the balance sheet date or at the end of the month.
Quick ratio allows you to assess whether your company will be able to cope with its short-term liabilities only with its liquid assets, i.e. cash reserves and deposits.
Current ratio is based on the assumption that your company can use its current assets and liquid assets to pay its short-term liabilities. Current assets include the inventories that can be converted into cash.
Profitability is one of the most important preconditions for your company's ability to function. If your company's profitability is poor, your company will make a loss and eat up its equity capital. In this case, there is a risk that you may have to close your business.
You can measure your company’s profitability with profit margin indicators proportioned to your turnover and financial return indicators proportioned to your capital.
Profit margin indicators include gross profit and operating profit percentages. The gross profit percentage indicates the magnitude of the share of turnover retained by your company for its sales. The operating profit percentage shows the size of your company’s operating profit in relation to its turnover. Other profit margin indicators include operating margin, financial profit and net profit ratio.
Return indicators include return on equity and return on investment. Return on investment measures the performance of your equity capital and interest-bearing loan capital. Return on equity only measures the performance of your equity capital.
Solvency relates to your company's ability to cope with fees in the long term. Even if your company is not making a loss, its profitability may be so poor or its liabilities so substantial that it is unable to cope with its financial obligations.
You can measure your company’s solvency with static indicators. Equity ratio denotes how much of your company’s assets have been financed with equity capital. Gearing ratio indicates the relation between your company's interest-bearing net debt and equity capital. Leverage ratio relates your company’s debts with its turnover.
You can also use dynamic ratios (describing the adequacy of financing) to measure the solvency of your company. One of them is the liabilities repayment time. It shows how many years your company would need to repay its debts if it used all its current revenue for the repayments. Other dynamic ratios include the net financial expenses to sales ratio and the debt service coverage ratio.