Accounting Formulas That Every Business Should Know
While the number of small businesses in the USA has been growing steadily, that doesn’t mean it is easy to start. There are so many different things you need to do and consider when starting a small business. Not only do you need a great idea, but you also need to be able to afford it and execute it.
In addition to that, a lot of work goes into the accounting of your business. You need to keep track of your inventory, invoices, accounts receivable and payable and so much more. While there is accounting software that can help, there are several accounting formulas that are not only important to know, but can give you quick and easy insight into the performance of your business.
Cost of Goods Sold
Cost of goods sold is a metric that looks at how much your company has spent purchasing the items (or parts of items) that you sell. You should ensure that the cost of your goods is at a suitable number when compared to how much revenue you earn from selling those items. This metric helps you see how much you spend on materials, and labor to create the products you sell. If your cost of goods sold is too high, it can hurt how much profit you can make.
The formula for cost of goods sold is: Beginning inventory value + Purchases of inventory – Ending inventory value = Cost of goods sold
This formula and metric is a little bit more complex than the others, but is still incredibly important to know. EBITDA is an abbreviation which stands for Earnings Before Interest, Taxes, Depreciation and Amortization. It essentially looks to measure the profitability of your company, before deductions are made that don’t factor into decisions or the operation of the company. Many see it as net income with expenses like taxes, depreciation and interest added back.
If you want to learn more about EBITDA, be sure to check out this helpful guide: EBITDA for Dummies. It should help you understand exactly why EBITDA is so useful to know.
When most people start a company, they don’t make enough to cover their costs. In fact, some companies might not actually see a profit for years. Because of this, it is extremely important to know when you are going to break even. The metric tells you how much you need to sell in order to cover your costs, which is very important to know when you are just starting out and losing money by operating.
The formula for finding out your break-even is: Fixed costs / (Sales price per unit – Variable cost per unit) = Break-even
The Accounting Equation
Out of all the different equations out there that businesses should be aware of, this is among the most basic but also the most important. It is also known as the the balance sheet equation. This formula is valuable to know as it can show you the health of your business with one simple equation. A basic rule of accounting is that this equation must always balance, so be sure to keep an eye out for that. Your company will have a balance sheet, which is essentially a complex display of this formula.
The formula for this equation is simply: Assets = Liabilities + Shareholders Equity
These accounting formulas can easily tell you a lot about your company and how it is performing, in a few simple steps. Of course, there are many other formulas that are worth knowing as well to help your business succeed. Thankfully, many modern accounting pieces of software will allow you to learn and see these formulas and metrics with ease.