Understanding The Balance Sheet

June 28, 2013 5:00 pm1 commentViews: 100

BS-1The balance sheet is the core of the financial statements. The other financial statements, i.e., income statement, cash flow statement and statement of shareholders’ equity, are either feed into or are derived from the balance sheet.  Being the core, the balance sheet summarizes these three components at a specific point in time :  company’s assets, liabilities and shareholders’ equity.  These three segments show what the company owns and owes, as well as the amount invested by the shareholders. 

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The balance sheet is so named because the two sides balance out.  It follows the following accounting  BS-2 equation : 

Assets = Liabilities + Shareholders’ Equity

The company has to pay for all the things it has (Assets) by either borrowing money (Liabilities) or getting it from shareholders (Shareholders’ Equity).

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Each of the three segments of the balance sheet will have many accounts within it which contain individual account values comprising the total segment.  Accounts such as cash, inventory and property are on the asset side of the balance sheet, while on the liability side, there are accounts such as accounts payable or long-term debt.  As there are different types of businesses, the exact accounts on a balance sheet will differ by company and by industry.

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Components of a Balance Sheet        

Assets

Assets are the resources that a company uses to operate its business such as cash, inventories, land and buildings, and equipment. Essentially, assets are any items of value, owned or controlled by the business, that contribute towards generating revenue.  Assets are categorized as either current or non-current assets.  Current assets are expected to be consumed or converted into cash within the next twelve months while non-current assets are not expected to be consumed or converted into cash within the same period. 

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Liabilities

Liabilities are the financial obligations or debts of the business.  They include claims that creditors have on the company’s resources such as accounts payable, tax liabilities and loans payable. Essentially, liabilities are amounts owed by the business to external parties. Liabilities are also categorized as either current or non-current liabilities.  Current liabilities are expected to be paid within the next twelve months while non-current liabilities are not expected to be settled within the same period.

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Stockholders’ Equity

Stockholders’ Equity refers to the residual interest in the assets of a business after liabilities are deducted.  It is the net worth of a business and equals the difference between assets and liabilities.Equity represents the amount belonging to the owner after all the financial obligations have been met.  It includes the initial and ongoing capital investments made by the owners, retained earnings (or accumulated losses), and reserves.  

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BS-3

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What can you derive from the balance sheet data?

  • You can quickly see the financial strengths and capabilities of your business.
  • You can evaluate your business’s liquidity and review the level of assets, debt and working capital of your business.
  • You can compare the increase or decrease in value of your business over time and analyze the business trend.
  • You can analyze the business ability to pay all short-term and long-term debts as they come due.
  • You can review the composition of assets and liabilities as well as the amount of retained earnings.

 

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1 Comment

  • From Bangalore

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