Sometimes big business gets maligned, but as individuals we can probably learn a thing or two from them. One way is the preparation of personal financial statements.
Sure, that might not be the most exciting thing to learn from large corporations. Furthermore, financial statements are generally made public because they need to be. There are requirements of publicly traded companies when it comes to filing of financial statements, so they pretty much have to be done whether or not an organization wants to.
Beyond the required aspect, however, such statements can tell a lot about the health of a business. The high level statements can tell investors quite a bit, while more detailed financial analysis can help a business make decisions.
Okay, so maybe you’re wondering where I’m going with this. Why should we as individuals care about such financial statements?
Well, it can be really helpful to put together financial statements in order to help us understand our finances. Here are two in particular:
As a snapshot of where we are financially, this gives us a picture of our situation at any given point in time.
We can look at our total assets and liabilities when putting together a balance sheet. Even more, we can assess the composition of them as well. For example, assets could be made up of retirement accounts, a home (also a liability), cash, and so on. This allows us to get a better sense of asset liquidity, which might sound like a bit like financial chemistry class 🙂 It can be similarly important to understand our debt as well.
When you prepare balance sheets periodically, let’s say every 3 months as an example, you can track progress. Ultimately, the measure to track is the difference between assets and liabilities, which represents net worth. Seeing progress over time with our efforts to increase net worth can tell us how successful we have been.
While the balance sheet tells us where we are at a given point in time, the income statement helps us understand how we got there and where we are going.
The key is that we can see our total income and total expenses, and what the difference is. I like to view this as a business would, in that it’s our profit. Thus, we want to maximize income and minimize expenses in order to increase that gap. Yeah, common sense – but the income statement helps us diagnose things.
In terms of expenses, we can figure out where are spending our money. Is there room to cut in some areas? That could help us increase that aforementioned gap.
My Questions for You
Do you put together personal financial statements?
If so, how often do you prepare them?
Do you have any other suggestions in terms of analysis that one could put together to understand finances?