Thrive15.com, a leading Ohio business college, defines accounting terms in the following transcript for entrepreneurs with Clay Clark, US Small Business Administration Entrepreneur of the Year, and Marvin Morse.
Clay Clark: Marvin, thank you for being on the show my friend.
Marvin Morse: Thank you, Clay. Pleasure to be here.
Clay Clark: Before we get into the eighteen accounting terms that every entrepreneur must learn, I really want to ask you here, how long have you been an accountant, my friend?
Marvin Morse: Well, let’s just say, it’s been over forty years.
Clay Clark: Really?
Marvin Morse: Yeah.
Clay Clark: Okay, so you’ve probably seen in your career some extreme examples of what to do and what not to do?
Marvin Morse: I’ve seen a lot, yes.
Clay Clark: Okay, okay.
And before we kind of delve into the magical world of accounting I really want to get to, I want to ask you this here, do you believe that most entrepreneurs who are operating without a bookkeeper are doing things the wrong way?
I mean, do you believe that most entrepreneurs who do not have a professional bookkeeper are probably doing things the wrong way?
Marvin Morse: More than likely, yes.
Clay Clark: Okay, while I get into these terms and when I kind of read their definition and I’d like for you to kind of add a little bit of a texture and explain to us what you think, what it means from your perspective and then give us some examples of really some of the things that we shouldn’t be doing or some of the common mistakes entrepreneurs make.
So, I’ll kind of lead you through it, so here we go.
Marvin Morse: Okay.
Clay Clark: Term number one is the balance sheet.
The financial statement that gives business owners a quick look of the company’s financial situation at a particular date and time. This statement features assets, liabilities and equity.
Marvin, from your perspective, what is a balance sheet, really?
Marvin Morse: A balance sheet is a, like you mentioned, it’s a snapshot look of the assets and liabilities of a organization at a specific point in time, lists the assets and liabilities but if you delve a little deeper than that it reveals things about the liquidity of the organization, their ability to pay their bills when they come to the debt to equity, ratios that are so important in maintaining your solvency and that type of thing.
Clay Clark: What are some of the most common mistakes that business owners make when it comes to their balance sheet?
I mean, you see it all the time, but what are some of the most common mistakes that entrepreneurs make?
Marvin Morse: We see a lot of them not recording liabilities that exist.
Clay Clark: Right.
Marvin Morse: So, their balance sheet may look better than the facts would really indicate.
Clay Clark: So, they may owe a bunch of money to other people and maybe don’t put that on there?
Marvin Morse: Correct.
Clay Clark: What ways do they have kind of a blue sky perspective to their liabilities, like, what kind of things to do not put on there conveniently?
Marvin Morse: Trade accounts payable.
Clay Clark: Okay, all right.
Marvin Morse: Notes payable.
Clay Clark: Okay, and as a business owner you just have to have an accurate balance sheet to where you’re headed, right?
Marvin Morse: Correct, absolutely.
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Clay Clark: Now, the second term I want to get into is assets. I think a lot of people get this confused but assets is all the stuff that a company owns to run its business.
This includes the buildings, the land, the vehicles, the furniture, the intellectual property, the cash.
Marvin, if you don’t mind, what is an asset?
Marvin Morse: That is any item that has future value to the organization.
Clay Clark: So as far as the assets and keeping track of the value of the assets, what are some common mistakes that entrepreneurs make when dealing with the value of their business assets?
Marvin Morse: Many owners contribute more value to some of their assets than is really realistic such as used furniture, used data processing equipment and that sort of thing.
Clay Clark: I think I put an artificially high value on my former porcelain penguin I used to have as a doorstop in my old home office there so I don’t know if that had the value that I thought.
Marvin Morse: That’s a great example.
Clay Clark: Okay, now, term number three, liabilities.
Now, this includes all of the debt that the company owes such as unpaid bills, loans, bonds, etc.
Marvin, in your mind, what is a liability?
Marvin Morse: Well, a liability is any obligation of course for which the organization is responsible.
Whether or not that liability would be recorded on the balance sheet or not.
Clay Clark: One of my first businesses I started was called DJ Connection and what we would do is we would is do entertainment for weddings and corporate events and we would charge the customer a deposit to reserve our services and then we would go out and do the event six to ten months later you know, typically.
So, the bride would get engaged, he booked the DJ, we don’t have the DJ for her until the summer so we’d have her deposit and so when I met with an accountant he pointed out that there are all these liabilities because in theory I still owed these people service that I hadn’t rendered yet.
Marvin Morse: That’s a very good example.
Clay Clark: And I had that all messed up.
So, talk to me about liabilities and maybe some of the most common mistakes that entrepreneurs you see make a lot of times as it relates to the liabilities.
Marvin Morse: Well, I think again the failure to record them or in your example, you just might perhaps received that money, recorded as income when in fact it really isn’t income now, it’s a liability until you provide that service.
And so, in that case you would be overstating your income and understating your liabilities.
Leases are very real liabilities but don’t typically get recorded on the balance sheet.
Clay Clark: Oh, a lease? So you owe the money on the rest of your lease, your monthly payment.
Marvin Morse: Correct.
Clay Clark: So, let’s just say my lease was two thousand a month and it was for five years, I might have $120,000 liability there.
Marvin Morse: That’s correct.
Clay Clark: Okay. So, do you feel like that, and I just want to make sure, if you’re watching this and thinking why do I need to know this stuff.
Well, if you go and try to get a bank loan or you try to expand your business to get the capital you need, banks want to know this stuff.
Marvin Morse: That’s right, Clay. And if they don’t feel comfortable that your financials accurately reflect all your liabilities they just likely take the easy way out and decline your loan.
Clay Clark: Yeah, and if you’re watching this and you feel like “Oh man, I’ve been in business for five years, and I’ve never done this stuff.” I don’t think you should beat yourself up but you really do need a bookkeeper, right? Someone to help you with this?
Marvin Morse: That’s correct, someone that understands basic bookkeeping and accounting that can at least get the essentials.
Clay Clark: Yeah.
Marvin Morse: Recorded properly in your financial statements.