Understanding Balance Sheet
There are cornerstone accounting books, and the balance sheet is one of the three, others are the cash-flow statement and the income statement. In simple terms, the balance sheet is better known as the “statement of financial position.” As a business owner or shareholder, you may find it difficult to understand the balance sheet, don’t be bothered you are not alone as this article will educate you. Let’s explore about balance sheet with no further delay.
What is a balance sheet?
A balance sheet is a picture of every business’s financial position for a particular period, generally at the closing accounting period. A balance sheet consists of assets, liabilities, and stockholders’ equity or owner’s equity. Both assets and liabilities are separated as short-term obligations and long-term obligations.
In your balance sheet, you will find assets, liabilities, and equities. These three are related and form the backbone of the balance sheet. The almighty formula of the balance sheet is expressed below;
ASSETS = LIABILITIES + EQUITY
Asset – It is something that an organization owns having monetary value.
Liabilities – Claims of creditors against the business assets
Always the assets must be equal to the sum of liabilities and stockholders’ equity.
What Stands as Assets?
Assets are used in running the business. They are every property owned by your company. Assets are often sub-divided into two, current assets and fixed assets. Current assets are convertible to liquid cash within a financial year, while fixed assets are properties that take longer than a year to convert to cash.
Look into your balance sheet; you should see items such as equipment, machinery, cars, or something that last beyond a year, these are fixed assets. The other type of asset is represented by items such as cash, cash equivalent, and account receivable. Your inventory, work-in-progress and raw materials are also current assets.
And What are Liabilities?
In your liabilities section, you’ll see unpaid taxes, salaries, money owed to vendors, and other unpaid day-to-day bills. In the liabilities section are also your unpaid loans, mortgage, and other payables.
Other liabilities may include interest on these loans, the principal value, and interest accrued. Items in the liabilities section are itemized using cloud accounting software.
Lastly, The Equity
The items that will be displayed on your free bookkeeping software for this section will vary based on the business you are operating. As a sole proprietorship, you will have owners equity and a drawing account. Let’s assume it’s a partnership, look out for an account for each partner and the total must be the original cost of set-up. For a corporation, a common stock that will tally with the value quoted in the Articles of the association will be marked out.
In most balance sheets drawn up by online accounting software, you will find the assets at the top, followed by the liabilities and the equity.
Analyzing The Balance Sheet With Ratios
myBooks Online accounting software makes it easy to understand your balance sheet. Financial ratio analysis is the dominant technique used in drawing out inferences from the balance sheet. Financial ratio analysis as computed by an online accounting software for small businesses, a knowledge of the financial standing of the company can be derived.
Through cloud accounting software, the current financial condition of the business in synergy with the other two cornerstone books can be pictured by anyone even without accounting knowledge.
Drawing out a balance sheet is purposeful for investors and business owners to understand the profitability of the business. This is known through what the business owns and owes.
What is a balance sheet used for?
- With the help of the balance sheet, the small business owner can estimate the financial health and the business capability.
- Balance sheet assists to estimate the business risks and ROI
- It secures the loan and investors
- It prevents you from some of the potential problems. For an instant, consider most of your business assets are inventory, which might create unwanted business risks. The stocks which do not sell can rapidly evolve into a serious liability.
- It assists you to make long-term business decisions
- It makes tax preparation easier than before.
Basics of Balance Sheet
To deliver the financial reporting to any of the lenders like investors, banks, and vendors – balance sheets and income statements are the two most basic terms. It is done to evaluate, how much credit to give to a firm.
Assets are partitioned into long-term assets and current assets, which will reflect the liquidating of each asset. One of the most liquid assets is cash. Long-term assets like machinery or real estate are rare to sell in a single night or hold the ability to convert into a current asset as cash.
#2 Current Assets
If any of your assets are transferred easily into cash, within one year, then those assets are current assets
- Cash: If the cash is available instantly like accounts checking, then this is the most liquid asset of all short-term assets.
- Accounts receivables: Accounts receivable is the amount earned by businessers, which can be received by suppliers or customers, or other vendors.
- Notes receivables: It is the item on a balance sheet that documents the value of promissory notes unpaid by an organization and should obtain payment for. It is the due which must be collected within a single year are current assets. If the notes are unable to gather within one year then these are mentioned as long-term assets
#3 Fixed assets
These are used in business connections. Some of the fixed assets are – vehicles, buildings, land, office equipment, and machinery.
- Vehicles: This can hold any type of vehicle in your respective business
- Buildings: It is ranked as fixed assets and these assets are depreciated over time
- Land: It is a fixed asset, but not depreciated. Because the land never wears out.
- Office equipment: It consists of your company equipment such as computers, fax machines, and others, which are utilized in your business.
- Machinery: It is the equipment and the machines to make a product in your company. Example: belt conveyor, printing press, and so on.
- Total fixed assets: This is the total dollar value of all your business fixed assets, excluding depreciation.
#4 Total assets
It denotes the sum of all total dollars worth in your business containing both the short-term assets and long-term assets.
#5 Liabilities and shareholders’ equity
It contains all obligations unpaid by a company to external vendors, banks, or creditors that are payable within 1 year + (plus) the shareholders’ equity. This balance sheet flank is represented as “liabilities”.
- Accounts payable: Accounts payable will hold all short-term obligations unpaid by your organization’s suppliers, creditors, and other vendors. It can also hold materials and supplies obtained on credit.
- Notes Payable: It denotes the cash unpaid on a short-term pool for 1 year or less than one year.
- Total current liabilities: This is the total sum of all the present liabilities unpaid to creditors which should be paid within a year.
- Mortgage note payable: These are the lease that expands more than the current year. For instant, you paid for 5 years for a 20-year mortgage note, which has 14 years of balance, without considering the current year is regarded as long term.
- Common stock: It is an inventory given as an initial part or later-stage investment
- Long-term liabilities: These can be any obligations unpaid by the business, which are due greater than one year out from the existing date
- Owners’ equity or Stockholders’ Equity: It is constructed using the initial investment in the company and any retained earnings reinvested in an organization
- Retained earnings: These are invested again in the company after the reduction of any of the shareholder’s allotment (like dividend payments)
#6 Total liabilities and owners’ equity:
It incorporates all obligations and funds that are owed to external vendors, creditors, or banks and the balance funds that are owed to shareholders, with retained earnings that are invested again in the business.