This checklist contains 10 Steps, several of which have been discussed elsewhere in this library.

Step One

The first step always, 100% of the time, is to make sure the balance sheet balances. There must be two double underlined numbers that are exactly and precisely the same on the balance sheet. If there are not two numbers which are exactly the same then the balance sheet doesn’t balance. Give it back. Don’t look at it. Don’t engage with this document, because it’s wrong.

In the sample balance sheet, you will see the two double underlined numbers for the current year are $40,200 and for the prior year they are $40,300.

Click HERE to see the Sample Balance Sheet.

Step Two

Second step, the retained earnings number on the bottom of the income statement has to be the same as the retained earnings number on the balance sheet. In some cases there is no retained earnings because the business is showing a deficit. If it’s a deficit, then the deficit has to be the same on both the balance sheet and the income statement. If those two numbers are the same then you can continue looking at these financial statements. If not, look no further.

In our sample, the retained earnings number on the balance sheet and the income statement for the prior year is $8,000. The balance sheet was above and here is the income statement.

Click HERE to see the Sample Income Statement.

Step 3 – Does the business have equity – that is, are liabilities less than assets?

If you are reviewing your own financial statements, you want to see equity. You want to make sure that you have more assets than you have liabilities. On the sample balance sheet you will see equity of $9,000 for the prior year and $11,000 for the current year.

Step 4 – Does the business have any cash?

Does the business have cash? Well, if you’re looking at this financial statement to decide if these people are worthy of you giving them credit, then you definitely want them to have cash. If you are looking at your own financial statements then you probably want to have some money in the bank as well so you can pay your bills. You find the cash balance at the top of the balance sheet. The sample balance sheet shows a cash balance of $3,000 for the current year.

Step 5 – Does the business have more current assets than current liabilities?

The very top of the balance sheet shows current assets, are they more than current liabilities? Current assets are cash, receivables and inventory. Our sample had $15,000 in current assets. They had $3,000 in the bank. They had $5,000 receivables and $7,000 in inventories that added up to $15,000. Their current liabilities were $10,000 which was $4,000 to their suppliers, and $6,000 to HST. So that was good, they have more than they owe. Current assets of $15,000 and current liabilities of $10,000.

Step 6 – How is the business financed? Debt, equity, or a combination?

How is the business financed? Typically, it’s a combination. If the business has been around for more than a year, then you have some retained earnings which is equity. You will have some debt, often to finance fixed assets. In the example, we had $40,200 in assets, and we had $29,200 in debt, $11,000 in equity. So that is a combination. On this sample we finance those assets with our payables, long term debt and by our retained earnings. The only time you’re going to see a business that is 100% financed by debt is a business which has no equity.

Step 7 – Has the business made any money – that is, are they showing a net income?

Has the business made any money? You want to look at the income statement, if you see a net income number on the income statement then you know that the business has made money. In our example they have made a net income after tax of $20,000.

Step 8 – Do any of the expense numbers appear unusually large or small?

When you review a set of financial statements you want to understand how the business operates, what do they sell, what are their costs? As a part of this review, you would see the various categories of expenses and ask yourself if the amount of expense seems reasonable compared to their sales?
For your own business you know how that operates, so what you are looking for is, do the statements show the numbers you are expecting to see. Is there some expense which is costing you more than you would have thought?

Step 9 – Are there any expenses that you would expect to see, and you don’t?

This can be a test of the communication between the bookkeeper, the accountant and you. Is everything recorded that you expect to see recorded? An example – Did you have any accounts receivable you should write off as bad debts, because you know that the client is not going to pay you? If so, you expect to see bad debts on the income statement. However, if you do not see bad debts, it could be because you have not told the bookkeeper that these accounts receivable are uncollectible.

Step 10 – If there are comparative figures, look across each line to see if the financial position has improved or deteriorated.

When you’ve got comparative figures, you can take a look across comparing the current year with the prior year. You are looking to see that the income has improved either by increasing revenue or decreasing expenses. You are looking at this income statement to better understand how the business is operating.