When it comes to small businesses, one of the most important things to understand is the difference between liabilities and assets. Liabilities are what a business owes to others, while assets are what the business owns. Understanding these concepts is key to ensuring that a small business is on solid financial footing.
A business's liabilities are typically greater than its assets. This is because businesses tend to owe money to others, while they have less money coming in from customers or other sources. The two most common types of liabilities are accounts payable and notes payable. Accounts payable are amounts that a company owes to its suppliers for goods or services that have been delivered, but have not yet been paid for. Notes payable are amounts that a company has borrowed from others, and must be repaid over a set period of time.
Assets can be categorized into two main types: current assets and long-term assets. Current assets are things like cash, accounts receivable, and inventory that can be turned into cash within one year. Long-term assets are things like property, equipment, and patents that will not be turned into cash within one year. Generally, businesses want to have more current assets than long-term assets, since the current assets can be used to pay off the liabilities more quickly.
There are a few different ways to measure a company's financial health. One common measure is called the "liquidity ratio". The liquidity ratio measures how easily a company can pay its debts over the next 12 months. To calculate the liquidity ratio, divide the company's current assets by its current liabilities. A ratio of 1 means that the company has exactly enough current assets to cover its current liabilities. A ratio of less than 1 means that the company does not have enough current assets to cover its liabilities, and would need to take out new loans or sell some of its assets to pay off its debts.
It's important for small businesses to keep track of their liabilities and assets, as well as their overall balance sheet. This information can help business owners make informed decisions about how to grow their businesses and manage their finances.
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Advice and research for Canadian small businesses from our expert team