Written on the 8 February 2014 by National Australia Bank
What’s a balance sheet?
A balance sheet or ‘statement of financial position’ paints a picture of your business’s financial strength at the end of an accounting period.
The big difference between a profit and loss statement and balance sheet is that a profit and loss statement winds back to zero at the end of each financial year, recording sales and expenses for a fixed period of time only.
A balance sheet, however, is a cumulative record of what has happened in your business right from the start. The balance sheet summarises your assets (what you own) and liabilities (what you owe). The difference between the two is what you’re worth.
On the assets side of the balance sheet are:
•fixed assets – generally longer-term assets like machinery as well as intangible assets such as intellectual property rights
•current assets – short-term assets such as stock and cash.
Liabilities are similarly divided into short and longer-term items, including:
•current liabilities – amounts you owe that are due for payment within one year such as suppliers’ bills
•long-term liabilities – amounts due after more than one year, for example, long-term bank loans
•shareholder funds – share capital (amounts paid into the company for shares) and reserves, including retained profit.
The capital employed in the business will always equal fixed assets, plus current assets, less current liabilities.
Understanding your balance sheet
Balance sheets can be trickier to understand than a profit and loss statement. You’ll likely need to ask questions to get a clear understanding of what the balance sheet is telling you. For example, your accountant typically has to make judgement calls on:
•how to value intangible assets such as licences or goodwill, where values could depend on the state of the market or other factors
•how to value stock and work-in-progress
•what adjustments to make for customers who are unlikely to pay.