Reading a business ledger
What is a business ledger?
Many business ledgers include a bank balance, income and expenses. A somewhat more detailed ledger will often include: assets, liabilities (debts), equity, income and expenses. If the business you are interested in doesn’t have any form of business ledger, be warned! A business ledger allows a transparent reading of how a business operates and what costs are associated with its operation. It is integral to judging the past growth of a business and areas for improvement.
Why look at a business’ past ledger?
It is important to look at a business’ past ledger to get a clear idea (both overall and in detail) of how the business you are interested in operates, as a strong ledger indicates a strong mind behind the business.
Has the business grown? What are its expenses compared to its incomings? Have its expenses grown and why? Are there unpaid debts you will be responsible for? Having a detailed knowledge of the health of a business, as is viewable through a ledger, will help you in the negotiation of the business.
Things to keep an eye out for:
Monthly vs. Yearly.
Be sure to look at expenditure and incomings based on both a monthly basis and a yearly basis. This will help you get an idea of whether the business is susceptible to change over different parts of the year and whether it has responded accordingly (by lowering outgoings if possible).
The devil is in the detail.
See what categories the ledger includes. Check whether incoming sales, for instance, are listed more than once. An individual sale may be listed in a column belonging to that month and in a ‘sales’ (or similarly named) column. This will help you get an idea of the percentage of certain sales in relation to all incomings for that month, and then that year.
Go over the ledger to find what regular costs are associated with the business. Does the ledger make these regular payments easily viewable? If not, why not? It may give you an indication of the level of organization if this isn’t the case. Regular payments will reveal certain things about the business and its local area, such as rent increases and utility costs.
The numbers game.
Is there a clear reference system in the ledger? This is often referred to as a chart of accounts. It assigns costs, such as wage costs, with a reference number. The larger the business the higher the need for a reference system, and if there isn’t one, what will be required of you to install a working reference system? Remember, any work you will be required to do to improve the business should be factored into your negotiations.
In debt we trust.
One of the most important parts of a ledger to get your head around is what debt the business is in, especially what regular debt it is committed to. How quickly does the business paid off its wholesalers, for example? You will be able to compare this to the business’ earnings to ascertain how much emphasis has been placed on keeping on top of debt. Any outstanding money you will owe when you take over the business will likely be the largest source of negotiation.
Look out for peculiarities.
In other words, if there seem to be any uncommon purchases within the general ledger, be sure to follow this paper trail to make sure there is documentation supporting that purchase. Purchases that drop off and become invisible when you try to find their source may be an indication of something not-quite-right.