Understanding Your Organization's Financial Statements


Factsheet - ISSN 1198-712X   -   Copyright Queen's Printer for Ontario
Agdex#: 057
Publication Date: 11/96
Order#: 96-037
Last Reviewed: 11/97
History: Replaces #92-098 Understanding Your Organization's Financial Statements
Written by: Katharine Schmidt - Rural Leadership Consultant/OMAFRA

Table of Contents

  1. Money: Who Need's It?
  2. Cash vs Accrual Accounting - Which Do You Use?
  3. Types of Financial Statements
  4. Budget
  5. Income Statement
  6. Project or Event Report
  7. Balance Sheet
  8. Your Organization's Financial Health
  9. Conclusion
  10. References
  11. Related Links

Money: Who Need's It?

Many non-profit organizations rely on limited funds to reach their goals and run their programs. The management of these funds is the responsibility of its members, directors and executive. The good or bad management of an organization's finances will contribute to its success or failure.

Cash vs Accrual Accounting - Which Do You Use?

There are two common accounting systems or methods for keeping track of an organization's financial situation: cash and accrual. Cash basis accounting recognizes transactions when the cash changes hands. Many small clubs or organizations with relatively few transactions each month use this system.

Accrual basis accounting recognizes income when it is earned and expenses when they are incurred. Under the accrual method, a bill that must be paid by the organization is included as a liability and money that the organization is owed is listed as an asset on financial statements. Accrual basis accounting gives a more accurate financial picture than cash basis accounting. This Factsheet describes financial statements typically used in an accrual system.

Types of Financial Statements

The financial situation of an organization is shown to its members through various types of statements. They include:

  • Budget
  • Income Statement
  • Project or Event Report
  • Balance Sheet

All financial statements indicate the type of statement, the organization's name, and the date or time period it covers.

Budget

A budget is a written plan that forecasts income (revenue) and expenses (disbursements) for a specified period of time (usually one year). Expressed in dollars, the budget is based on an organization's goals and ensures realistic planning of programs. Through its use, members can control and co-ordinate finances and programs.

Before approving the budget for your organization, check that the activities planned by your organization are receiving adequate funding and that all expenses are accounted for. As shown in Figure 1, a budget indicates predicted revenue, predicted expenses, and a predicted net income or loss (revenue less expenditures).


Figure 1. Morton Rural Community Organization Budget (January 1, 1999_ to December 31, 199_)

Revenue
Grants

$1700

Membership Fees

2500

Donations

400

Fund Raising

1200

Miscellaneous

150

Total Revenue

$5950

Expenses
Administration

$2500

Meetings

600

Travel

600

Promotion

250

Honoraria

1000

Supplies

400

Total Expenses

$5350

Net Income

$600

Note: If the net income is bracketed ( ), the organization anticipates a deficit or loss position for the time period reported. It is in the red!


What To Look For:

  • The budget should be consistent with the organization's goals and plans.
  • Check that revenues and expenses look reasonable. You may want to compare it with previous budgets and income statements.
  • If expenses are greater than revenues, does the organization have surplus funds to cover the loss?
  • Ensure that the Board of Directors approves the budget before money is spent.

Event or Project Budgets are useful in planning specific projects or programs during the year. A project budget uses the same format as the budget and shows greater detail on a specific project or event.

Income Statement

This report, also known as a Statement of Operations or a Statement of Receipts and Disbursements, gives a picture of how much money was earned (revenue) by the organization and how much money was spent (expenses) over a specified period of time.


Figure 2. Morton Rural Community Organization Income Statement (January 1, 1999_ to December 31, 199_)

 

January 1 to December 31 Actual

Budget for Year

Variance

Revenue
Grants

$1600

$1700

$(100)

Membership Fees

2900

2500

400

Donations

500

400

100

Fund Raising

1100

1200

(100)

Miscellaneous

100

150

(50)

Total Revenue

$6200

$5950

$250

Expenses
Administration

$2800

$2500

$300

Meetings

500

600

(100)

Travel

500

500

0

Promotion

400

250

150

Honoraria

1000

1000

0

Supplies

500

400

100

Depreciation

100

0

100

Total Expenses

$5900

$5350

$550

Net Income

300

600

($300)

Note: Revenue and expenses budgeted for the year are compared to the actual revenue and expenses at year end. The variance indicates any difference between the amount budgeted and the amount actually received or spent. The difference may also be shown as a percent difference of the budgeted amount.


The income statement measures the actual progress of the organization as shown in Figure 2.

It is usually completed at the end of a fiscal year and is compared with past and future budget projections. It can also be prepared periodically through the year to check progress and make sure that all plans are on track.

The categories used for revenue and expenses are the same categories used in the organization's budget (see Figure 1).

What To Look For:

  • Reasons for any significant differences between budget and actual should be explained.
  • Reasons for unbudgeted revenue and expenses should be explained.

Project or Event Report

Organizations often prepare a financial statement to report on specific programs or events. Project reporting not only gives an accurate financial record of activities or events but is also helpful when planning future events.

Figure 3 shows an example including a comment section explaining details of the project.


Figure 3. Morton Rural Community Organization (Project) Report - November 22, 199_

 

Projected Budget

Actual

Revenue
Sponsorship

$600

$700

Grant

200

200

Registration Fee

150

125

Total Revenue

$950

$1025

Expenses
Room Rental

$350

$350

Speakers

400

400

Refreshments

75

100

Certificates

80

85

Total Expenses

$905

$935

Net Income

$45

$90

Comments:

  • Event was very successful with 25 participants.
  • Evening time slot preferred for future events.
  • Certificates were appreciated.

Balance Sheet

A balance sheet is a summary of the financial position of an organization at a specific point in time (Figure 4).

As shown in Figure 4, a balance sheet has three parts.

1. Assets

Anything of value that the organization owns. Your organization may have one or several of each of two types of assets listed in its balance sheet.

Current Assets are money or items of value which can be readily converted into cash. Examples include securities, inventories (items for sale and supplies to be used), prepaid expenses, and services.

Fixed Assets are property or equipment that is expected to last longer than one year.

Fixed assets may be reported by original cost, market value (amount asset could be sold for) or by depreciated value. Depreciation spreads the cost of an asset over its useful life. The annual cost of depreciation (determined by published schedules) will be shown on the income statement (Figure 2). The remaining asset value is carried forward and reported on the balance sheet.

The value of the office equipment in Figure 4 has been depreciated. Land is not depreciated since it is not consumed over time and seldom declines in value. Notes relating to the valuation of fixed assets are usually included in the balance sheet or are attached as an appendix.

2. Liabilities

Debts or amounts owed by the organization. This includes money owed to suppliers for services and amounts owed to employees for wages or salaries.

Current liabilities are obligations due and payable within one year (including any loan principle payments).

Long term liabilities are obligations such as loans or a mortgage to be paid off in more than one year.

3. Equity, Net Worth or Capital

Equity = Assets - Liabilities

Reviewing the association's equity is important because it shows the accumulated worth of an organization. In Figure 4:

Equity = $15,800 - $2,350

= $13,450.

Relationship between the Income Statement and the Balance Sheet

The net income (or loss) from the Income Statement in Figure 2 = $300) is brought forward to the Balance Sheet (Figure 4 - equity). To obtain the year end equity position, net income is added or net loss is subtracted from the equity position at the beginning of the year.


Figure 4. Morton Rural Community Organization Balance Sheet (December 31, 199_)

Assets

Current Assets
Cash

$600

Accounts Receivable

 200

Total Current Assets

$800

Fixed Assets
Office Equipment (depreciated value)

$5,000

Land (market value)

10,000

Total Fixed Assets

$15,000

Total Assets (at market value)

$15,800

Liabilities

Current Liabilities
Accounts Payable

$2,000

Loan Payment (due in 12 mos)

350

Total Current Liabilities

$2,350

Equity
Equity at beginning of year

$13,150

Net Income

300

Equity at end of year

13,450

Total Liabilities+ Equity

$15,800

Note: A balance sheet must always be in balance!

Total Assets = Total Liabilities + Equity

$15,800 = $ 2,350 + $13,450

= $15,800


What To Look For:

  • What items are included under accounts receivable? When are these accounts to be received? Are they overdue? Is there any possibility of not receiving the money that is overdue?
  • What items are included under accounts payable? When are they due? Is there enough cash to cover them? (see Financial Ratios)
  • Compare the current balance sheet with previous years' statements. Identify any trends that might be an indication of changes to the financial health of the organization. (Change in equity.)
  • You may want to discuss whether or not the organization is fully insured for the replacement value of assets.
  • If there are any investments, are they earning a reasonable rate of return?

Your Organization's Financial Health

Financial Ratios

Financial ratios can be used to evaluate the financial stability of an organization. Information from the balance sheet is essential to calculate financial ratios. Table 1 shows two types of ratios and how they are calculated.

Table 1

Ratios Calculation Organization Example
Liquidity
Current Ratio Current Assets/Current Liabilities $800 / $2,350 = 0.34
Debt Financing
Percent Debt to = (Total Liabilities / Total Assets) x 100  
Assets
Ratio
= ($2, 350 / $15, 800) x 100 = 15 %

Liquidity refers to the ability of the organization to meet cash obligations as they come due in the short term (less than 12 months) and is usually measured by the current ratio.

A current ratio of .34 indicates there are 34 cents worth of current assets to back up each dollar of current liabilities. A current ratio of less than 1 means that there are insufficient current assets to cover short term debt. This could cause cash flow problems. An organization that has its current ratio greater than one would be able to pay its immediate bills from currents assets.

Debt financing refers to the ability of an organization to cover debts. The lower the ratio, the less risk of financial difficulties for the organization and less risk to creditors.

In this example the Percent debt to assets ratio shows that only 15% of assets are encumbered by debt. This is a strong financial position. An organization with a debt to assets ratio of over 100% would be in a very weak position.

Conclusion

Members learn about the financial health of their organization by reading the financial statements. It is your responsibility as a director or member to understand the financial statements of your organization. You will then be able to determine the financial status of your organization and make sound financial decisions to ensure that it remains healthy.

References

Financial Management - Skills Program for Management Volunteers. Kent, Judy and Dorothy Strachan. Skills Program, 1985.

Financial Management for Community Groups - The Voluntary Action Resource Centre. Grange, Alix and Margaret Vrabel. 1984.

Ontario Ministry of Agriculture and Food - Money Matters: A Guide to Farm Financial Planning. Publication 379. 1990.

Related Links


For more information:
Toll Free: 1-877-424-1300
E-mail: ag.info.omafra@ontario.ca