Balance
Sheet
A balance sheet,
also known as a "statement of financial position," reveals a
company's assets, liabilities and owners' equity (net worth).
The balance sheet, together with the income statement
and cash flow statement, make up the cornerstone of any company's financial
statements. If you are a shareholder of a company, it is important that you
understand how the balance sheet is structured, how to analyze it and how to
read it.
The balance sheet is divided into two parts that, based on the following equation, must equal each other, or balance each other out. The main formula behind balance sheets is: Assets = Liabilities + Equity. This means that assets, or the means used to operate the company, are balanced by a company's financial obligations, along with the equity investment brought into the company and its retained earnings. Assets are what a company uses to operate its business, while its liabilities and equity are two sources that support these assets. Owners' equity, referred to as shareholders' equity in a publicly traded company, is the amount of money initially invested into the company plus any retained earnings and it represents a source of funding for the business. It is important to note that a balance sheet is a snapshot of the company's financial position at a single point in time.
The balance sheet is divided into two parts that, based on the following equation, must equal each other, or balance each other out. The main formula behind balance sheets is: Assets = Liabilities + Equity. This means that assets, or the means used to operate the company, are balanced by a company's financial obligations, along with the equity investment brought into the company and its retained earnings. Assets are what a company uses to operate its business, while its liabilities and equity are two sources that support these assets. Owners' equity, referred to as shareholders' equity in a publicly traded company, is the amount of money initially invested into the company plus any retained earnings and it represents a source of funding for the business. It is important to note that a balance sheet is a snapshot of the company's financial position at a single point in time.
The Types of Assets
1. Current
Assets
Current assets have a life span of one year
or less, meaning they can be converted easily into cash. Such assets classes
include cash and cash equivalents, accounts receivable
and inventory.
Cash, the most fundamental of current assets, also includes non-restricted bank
accounts and checks. Cash equivalents are very safe assets that can be readily
converted into cash; U.S. Treasuries
are one such example. Accounts receivables consist of the short-term
obligations owed to the company by its clients. Companies often sell products
or services to customers on credit; these obligations are held in the current
assets account until they are paid off by the clients. Lastly, inventory
represents the raw materials, work-in-progress goods and the company's finished
goods. Depending on the company, the exact makeup of the inventory account will
differ. For example, a manufacturing firm will carry a large amount of raw
materials, while a retail firm caries none. The makeup of a retailer's inventory
typically consists of goods purchased from manufacturers and wholesalers.
2. Non-Current
Assets
Non-current assets are assets that are not
turned into cash easily, are expected to be turned into cash within a year
and/or have a lifespan of more than a year. They can refer to tangible assets
such as machinery, computers, buildings and land. Non-current assets also can
be intangible assets,
such as goodwill, patents or copyright. While these
assets are not physical in nature, they are often the resources that can make
or break a company - the value of a brand name, for instance, should not be
underestimated.
Depreciation is
calculated and deducted from most of these assets, which represents the
economic cost of the asset over its useful life.
On the other side of the balance sheet are the liabilities. These are the
financial obligations a company owes to outside parties. Like assets, they can
be both current and long-term. Long-term liabilities
are debts and other non-debt financial obligations, which are due after a
period of at least one year from the date of the balance sheet. Current liabilities
are the company's liabilities that will come due, or must be paid, within one
year. This includes both shorter-term borrowings, such as accounts payables,
along with the current portion of longer-term borrowing, such as the latest
interest payment on a 10-year loan.
Shareholders'
Equity
Shareholders' equity is the initial amount of money
invested into a business. If, at the end of the fiscal year, a company decides
to reinvest its net earnings into the company (after taxes), these retained
earnings will be transferred from the income statement
onto the balance sheet and into the shareholder's equity account. This account
represents a company's total net worth. In order for the balance sheet to
balance, total assets on one side have to equal total liabilities plus
shareholders' equity on the other.
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