Many dealers spend most of their time focusing on the profit and loss of their dealership. While that is certainly important, without adding some understanding of what is in the balance sheet, the dealer may not be getting a true picture of their profitability.
We are often asked by dealers to review their financial records in detail to either assist them with a specific issue, give them reassurance that controls are in place and working, or just as a periodic check-up. When we do these operation reviews, we spend most of our time reviewing the dealership balance sheet. Quite simply, this is where the bones are likely buried. The accuracy of your balance sheet is directly connected to the accuracy of your income statement.
Some common examples of balance sheet items that can distort profitability include:
The phrase “water in your balance sheet” refers to overstated assets or understated liabilities and includes these items as well as others. Every dollar of water represents a dollar of overstated income either in the current or previous periods.
Let’s look at an example related to prepaids. Assume you paid your law firm $50,000 in June for some legal work related to an employment law claim. You tell your office manager to charge this amount to prepaids and expense it out over the next six months, so the current month doesn’t look so bad. Are you sure this is happening, though? If it isn’t, your year-end profit will be overstated by $50,000. We see this happen frequently with insurance, advertising and other expenses. In addition, when employees are paid on the net income of the store, you may see some surprising items in prepaids.
When we perform operation reviews for clients, we review journals, schedules and reconciliations to ensure the balances are correct and to identify issues we believe need your attention. Focusing solely on the income statement can be very misleading and give you a false sense of how well your dealership is operating. If you don’t have confidence in your balance sheet, you shouldn’t have confidence in your income statement. An operation review can give you that confidence or help you make the changes necessary to get there. Contact your local Eide Bailly professional or a member of our dealership team today to get started.