How to Clean Up Your Balance Sheet—4 Steps for Any Company
The most important aspect of a CFO’s job is to help the CEO make informed, strategic decisions. These decisions rely heavily on the availability of accurate, timely, and appropriate data. If the financials are a mess, it’s infinitely harder—if not impossible—for the executive team to make good decisions on behalf of the business.
Besides problems with processes and controls, many financial messes can be remedied by cleaning up one key factor: the balance sheet. Let’s find out how to clean up your balance sheet. But first, we must clarify what “clean” financials are.
What Are “Clean” Finances?
Clean financials indicate your reports, balance sheets, and all other financial documents are accurate, consistent, and up-to-date—providing an honest and trustworthy representation of your financial position and history. Clean financial statements also usually means the document is organized in a professional, standardized format.
You can quickly tell if your balance sheet is clean if it shows current (or at least as recent as possible) figures, accurately reflects truthful data pulled from multiple sources and is uncluttered by irrelevant material.
How Do I Clean Up My Balance Sheet?
You must take four core steps to ensure your balance sheet is accurate and presentable. Like anything, starting with the basics is best before upgrading or expanding.
1. Understand Balance Sheet Basics
The balance sheet accounts for the company’s assets, liabilities, and equity at a particular point in time. In any given month, the balance sheet changes with every transaction the company makes. Significant changes in the balance sheet inform executives of changes in the cash conversion cycle, receivables turnover, and can warn of cash flow problems.
Your balance sheet should help your finance team evaluate the company’s liquidity, solvency, and general financial position. There are many different details on a balance sheet that help reveal this information. This includes details such as deferred revenue, inventory costs, depreciation, and other important data.
A leadership team can accurately gauge the business’s health when coupled with the income and cash flow statements. If the balance sheet is incorrect, so follows the income and cash flow statements and, consequently, any decisions made due to those.
Common Balance Sheet Mistakes
Try to avoid these common mistakes when filling out a balance sheet:
- Classifying data incorrectly: You must classify all balance sheet data as assets or liabilities. Though there are only two options, it is very common for data to be uncategorized or miscategorized.
- Neglecting inventory changes and variations: On top of normal transactions, you must record changes to your inventory. This gives an overview of which products sell well, which don’t, and which products require a different order.
- Omitting transactions: Many people simply forget to record transactions onto a balance sheet. Even one omission can throw your financials into disarray.
- Transposing data incorrectly: Transferring numbers from one database to a balance sheet is guaranteed to produce a few errors now and then, despite its supposed simplicity. So while your records may be complete and up-to-date, you’ll be working with incorrect data.
Tips for Balance Sheet Clean-Up
With the above mistakes in mind, here are four solutions to help you clean up your balance sheet in the future and avoid common errors:
- Set a reminder to categorize your data. Utilizing a reminder system that notifies regularly prevents omissions and repetitions—plain and simple.
- Use an inventory management system. These automated systems update your inventory in real-time. This way, you can quickly cross-reference the inventory reported on your balance sheet with the actual data.
- Record transactions the moment they occur. Avoid doing batches of data entry if you can, as it’s too easy to skip over a single transaction (or even a group of transactions).
- Always double-check your data. Even if you feel sure you processed the data correctly, have a second set of eyes verify your work.
2. Record Transactions in the Correct Period
Each transaction must be properly attributed to the time period it was completed. This allows you to accurately picture your financials at any given time. Accidentally accounting for a transaction in the wrong period throws off cash flow forecasts, making it difficult to balance the balance sheet.
Make sure payables are also resolved in the correct period. Check your previous month’s balance sheet to see if it’s changed—if it has, changes have been made since the books closed. Correct any transactions recorded in the wrong period, and account for them in the correct one.
3. Balance Your Balance Sheet
As rudimentary as it may seem, if your assets don’t equal liabilities plus equity, something is wrong. Before closing your books at the end of the month, reinspect accounts to ensure they are accurate. If there’s an incorrect account balance, you’ll need to go through the entries associated with that account to find the error and make appropriate adjustments.
Common Errors when Balancing Your Balance Sheet
There are three additional errors many financial professionals make when attempting to clean up a balance sheet:
- Posting entries in the wrong account: If you have several accounts for different business expenses, attributing entries to the wrong account can lead to tremendous confusion down the line. When you reach your month-end closing process, you’ll see the balance sheet does not line up correctly with your account’s transactions. This can lead to hours of tracking down where the error occurred.
- Misclassifying payments as debit versus credit: Listing a transaction as a credit purchase instead of a debit may lead you to accidentally overcharge yourself in a future transaction.
- Duplicating entries: Whether it’s because multiple people are working on your balance sheet or you lost your place in your data transposition, duplicate entries are a very common problem.
4. Build On Your Corrected Financial Information
Once errors in the balance sheet are corrected, you’ll need to double-check your other financials to ensure those changes have carried over to other documents. Because the balance sheet informs other financial statements, you’ll also need to update anything that is pulling data from it.
Most importantly, make any necessary corrections to your income and cash flow statements. If your balance sheet is correct, then every business decision it influences should be well-informed and backed by accurate, GAAP-compliant data. If you still don’t trust the numbers, consider bringing in an outside expert to take a look.
While considering ways to alter your financial processes in order to accommodate your balance sheets better, let’s go over some key takeaways:
- It’s easy to make errors on balance sheets.
- It’s just as easy to establish practices that help you avoid these errors.
- Balance sheets are your source of information for making all future decisions, so it’s in your best interest to ensure they are truly clean.
A CEO relies on accurate, timely financials. Financial strategies based on incorrect financials are destined for trouble. If your business’ financials are out of line, start with the balance sheet.
Messes in the balance sheet create messes in the income and cash flow statements. Cleaning up this one financial statement will make you one crucial step closer to more informed decision-making and accurate forecasts.
If you could use some assistance in cleaning up your balance sheet, contact Amplēo for trustworthy support. We can set you up with an outsourced CFO that provides the external financial expertise you need for smarter financial decisions.
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Assets = Liabilities + Equity
- Cash and other liquid assets
- Incoming payments from accounts receivable
- Prepaid expenses
- Real estate
- Factory machinery
- Intangible assets (trademarks, brands, goodwill)
- Accounts payable
- Current debts
- Long-term debts
- Bonds payable
- Share capital
- Retained earnings