Matching the P&L and Balance Sheet
The correlation between the P&L and the balance sheet lies in this:
The profit on the P&L is income minus expenses.
On the balance sheet income appear as increased assets (combination of
increased cash assents and increased A/R liabilities)
On the balance sheet expenses appear as a combination of decreased
cash assets, decreased inventory assets and increased A/P liabilities.
Example: income=500, expenses=375, profit=125
On the P&L
income: 300=cash, 200=A/R
inventory expense=200 (purchases=600, net inventory increased by 400)
On the balance sheet
cash: assets up by 300 (cash sales)
cash: assets down by 175 (cash operating expenses)
a/r: assets up by 200 (a/r sales)
inventory: assets up by 400
a/p: liab up by 600 (inv purchases on credit)
change in equity: +300-175+200+400-600 = 125
To get started, you will have to force the balance sheet to match the
P&L. (e.g. you have to make sure that the assets minus liabilities
minus itemized equity accounts yields a retained equity value equal to
the p&l profit figure for the year.) From that point on, we suggest
running the financial reports often - perhaps even daily - to verify
that the above relation holds. That way you would quickly notice if you
inadvertently make an unbalanced entry somehow.
You needn't print these reports on paper every day - just display them
to see that they match and if they don't you need to think about what
unusual transactions you did that day which could explain the difference.