Understanding Your Numbers 101: Balance Sheet

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Understanding Your Numbers 101: Balance Sheet

As one of three key financial statements, your balance sheet has a lot to say about your business – including how healthy it is from a debt load perspective.

Once you understand your balance sheet numbers, you can use them to help determine things like the net worth of your business, whether or not it can support a new loan, or how attractive it might be to investors.

So, let’s take a deeper dive into what a company balance sheet is and what it can do for your business.

What is a Balance Sheet?

The balance sheet - also known as the statement of financial position – is an overview of:

  • what your business owns (assets),
  • who owns it (equity), and
  • what your business owes (liabilities)

Because these numbers fluctuate over time, the balance sheet reflects your company’s financial position and net worth on a particular date.

The net worth of your business can be summed up by subtracting your total liabilities from your total assets. And since the difference between those two amounts is called owner’s equity (when you’re a sole proprietor), the balance sheet equation looks like this:

assets = liabilities + owner's equity

For clarity’s sake, balance sheets are often set up with company assets listed and tallied down the left side, and company liabilities and equity listed and tallied down the right side. The totals on both sides are always identical.

You’ll find a sample balance sheet here:

example of balance sheet

Different ways the Balance Sheet can be used

The balance sheet can be used in a number of different ways. But in each case, its main purpose is to provide a clear understanding of your company’s financial standing at a specific point in time.

People who may have reason to review your balance sheet include:

  • Internal stakeholders like yourself, your shareholders, or your management team.
  • External stakeholders like investors or banks.
  • Potential stakeholders like new backers, lenders, or buyers.

As a business owner, you can use the balance sheet to review and manage the relationship between the money inside your company and the money you owe other people.

For example, your balance sheet can help you figure out whether you can afford to invest in new premises, inventory, equipment, or personnel. It can also help you ward off financial problems by highlighting when it might be time to reduce long-term debt, or convert certain assets into cash.

People outside your business may also want to see how your company has performed over time.

By looking for trends and applying financial ratios to your monthly, quarterly, and annual balance sheets, lenders, investors, or potential buyers can determine things like:

  • How much of a credit risk your business represents.
  • How much money you can afford to borrow.
  • How likely your business is to provide a return on investment.
  • How it compares with other companies in your industry.
  • How much potential there is for future growth.

Your balance sheet may be used differently under different circumstances, but it clearly offers a great deal of valuable information about the financial stability of your business.

What you'll find on a Balance Sheet

As discussed, there are three types of numbers on a balance sheet: assets, liabilities, and equity. A brief look at each will show you how these categories relate to your own business.

Assets

Assets are anything your business owns that has value. For greater accuracy, accounting systems divide a company’s belongings into short-term assets (current assets) and long-term assets (fixed assets).

Current assets include cash, and anything that can be converted into cash over the short term (typically within one year or less).

Common examples of current assets include:

  • accounts receivable,
  • inventory,
  • short-term investments, and
  • prepaid expenses like annual insurance premiums

Fixed assets, meanwhile, are not so easily turned into cash and include things like business equipment, real estate, intangible assets like goodwill, and long-term investments.

Liabilities

Liabilities are debts your business owes. Similar to assets, the money you’ve promised to pay in the future is divided into short-term liabilities (current liabilities) and long-term liabilities (non-current liabilities).

Current liabilities include any amounts that are due within one year. Common examples include:

  • accounts payable,
  • taxes or dividends owing,
  • short-term loans, and
  • wages, salaries, or other amounts owing to employees

Non-current liabilities, meanwhile, are amounts that extend beyond the next year and include things like bonds you’ve issued, and lease, mortgage, vehicle, equipment, or other long-term loans.

Equity

As we’ve already seen, the amount left over after deducting everything your business owes from everything it owns is called equity. Equity can take different forms, depending on who it belongs to.

  • If you own your business as a sole proprietor, the difference between your assets and liabilities belongs to you and is called owner’s equity.
  • If your business is a corporation, the difference between your assets and liabilities belongs to company stockholders and is called stockholders’ or shareholders’ equity.

Equity may also include money (capital) you or other owners invest into your business, and profits (retained earnings) you or other owners earn and reinvest into your business.

Reviewing your financial statements

When reviewed along with your income statement and cash flow statements, the balance sheet isn’t just handy for seeing where your business has been – it’s essential for figuring out where it’s going.

But we get it: wrestling with numbers isn’t for everyone.

So if you need help seeing where the money resides in your business, Enkel provides visibility. Contact us today to learn more!

Gracia Chua
About Gracia Chua
Gracia Chua is the Marketing Specialist at Enkel Backoffice Solutions, a Vancouver based accounting firm that provides day-to-day bookkeeping services for small to medium-sized businesses and non-profit organizations.