Assessment: definition, formula, example
- A balance sheet is a type of financial statement that lists the assets, liabilities, and equity of a business.
- Assets must be in “equilibrium” and equal total liabilities and equity.
- Balance sheets can provide important financial information, but are also limited to a single day.
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A balance sheet is a type of financial statement that describes the assets and liabilities of a particular business, as well as the equity on a particular day. It is used to assess the financial health of a business and is also called a âstatement of financial positionâ. Businesses use a variety of accounting tools, including a balance sheet, to assess the financial condition of a business at any given time.
How a balance sheet works
When it comes to assessing the financial well-being of a business, there are different types of financial statements to look at. A balance sheet is just one type of statement and is a bit different from an income statement (P&L), which is another commonly used financial report to assess a business’s finances.
âI like to explain to clients that the income statement is a film, while the balance sheet is a photo. The income statement reflects income and expenses over time, but the balance sheet shows the financial condition of the business at any given time. Â»Explains Courtney Barbee, owner and COO at Accountant.
So, for example, an income statement might be for the fourth quarter, a balance sheet might be for a single day at the end of a particular accounting period.
The balance sheet equation is: Assets = Liabilities + Equity
Let’s go over what these parts mean individually:
- Assets. These are items of monetary value. This includes current and non-current assets and is classified in order of liquidity. So, for example, you will have your current assets which include cash and cash equivalents, accounts receivable and inventory. Non-current assets can include items such as equipment, investments, copyrights and intellectual property
- Liabilities. This includes amounts owed for debts or expenses. It also includes current and non-current liabilities. Current liabilities can be accounts payable, current debt securities and a portion of long-term debt securities. Non-current liabilities can include bonds issued by the company and long-term debts can also be classified as non-current liabilities.
- Equity. It is equity refers to equity and includes the amount shareholders have invested in the business as well as retained earnings. Equity can also refer to net assets, which is the total liabilities subtracted from total assets.
“It’s called the balance sheet because it reflects the accounting equation, Assets = Liabilities + Equity, in balance,” explains Barbee. “The top is the assets: items of value, tangible or intangible, that the business owns. These can include cash, accounts receivable, equipment, or even things like a brand. trade or prepaid expenses. ”
Read a report
Given the name âbalance sheetâ, assets and liabilities as well as equity must be âbalancedâ. In other words, the value of your assets should be the same value as your total liabilities and equity combined.
âOn the balance sheet, assets are listed in the order of their ease of converting into cash. The liabilities are listed in the order in which the required payment is due and payable, âexplains Phil Weiss, CFA, CPA and Director of Learned Wealth Management.
When it comes to the layout of the balance sheet, you can find either a vertical balance sheet like the one pictured below where the items are listed in a column that reads vertically, or from top to bottom.
There is also the possibility of a horizontal presentation, where assets and liabilities and equity are side by side, read horizontally. In this case, on the right side you will see the listed liabilities as well as the equity and on the left side there are the listed assets. Vertical presentation tends to be more common.
âUnderneath the assets are the liabilities, the things that businesses owe. These are not just debts such as loans or credit cards, but can also include unearned income,â notes Barbee. âEquity is matched with liabilities. The entire income statement, up to the balance sheet date, is in fact housed in this part as retained earnings. “
The equity line on the balance sheet can include more than it looks and can be an important metric for investors to consider.
âIt also includes equity that came in through things like cash injections or sales of shares, as well as equity that came out through distributions. Liabilities and equity add up to equal assets, resulting in the balance sheet, âexplains Barbee. .
Example of balance sheet
As an investor, you can view the important financial statements of publicly traded companies through the Securities and Exchange Commission (SEC). Here is an example of Apple Inc.’s balance sheet.
As you can see, there are assets divided by current assets including their subcategories as well as non-current assets and their respective subcategories. Below you can see current liabilities and non-current liabilities with their respective subcategories. At the bottom you can see the equity.
From the image below, you can see that the Total Asset Amount is Total Liability and Equity Amount.
Advantages and disadvantages of using a balance sheet
A balance sheet is one of the primary financial statements that businesses should use as part of the assessment of their business finances. It is also possible for investors to examine the balance sheets of listed companies to determine their profitability. It is important to understand the benefits of reviewing a balance sheet and also to understand its limitations.
How investors can use a balance sheet
Investors can look at a company’s assets and liabilities and examine
and returns before deciding to invest in a particular company. âInvestors look at balance sheets to help assess a company’s financial viability,â Weiss explains.
Another important line to look at is the equity line where you can see important information about stocks and equity.
The financial report
A balance sheet is just one of many financial statements that businesses and investors can use to assess the financial condition of a business. It can offer important information at a specific time, but may not be as useful for examining growth. In tandem with other financial statements, you can get even more in-depth information.
âIn general, if you’re trying to understand the financial health of a business, you want to look at its income statement, its cash flow statement, and its balance sheet,â suggests Weiss. “The combination of the three can give a better picture of the financial health of a business than any individual financial statement.”
This way, you have all the information you need to make an informed decision, with all the data available for you to review.