Definition: The financial balances of a sole proprietorship, a business partnership, a corporation or other business organization, such as an LLC or an LLP. This includes assets, liabilities and ownership equity as of a specific date such as for a financial year.
Balance sheets are the financial statement that summarize an organization’s assets, liabilities and owner equity. The balance sheet must balance the assets with the value of the liabilities plus the shareholder’s equity as expressed in this formula:
Assets = Liabilities + Shareholder Equity
- Assets- things used by a company such as equipment, property
- Liabilities – obligations/debts
- Owner’s equity – net worth of investor
The balance sheet, along with an income statement and a cash flow statement are documents that are available for shareholders and potential investors. They are used by investors to decide if they should invest in a company.
Components of a Balance Sheet
Assets = Liabilities + Shareholders’ Equity
Assets are divided in to two categories, current assets and non-current assets and then further broken down in to more specific categories.
Current Assets are divided as follows:
- Cash and cash equivalents – Physical currency and assets that can easily be converted in to cash, such as short government backed bonds.
- Inventories – Raw materials used in methods of production as well as work-in-process goods (i.e almost completely finished good). It also takes into account completely finished goods that have yet to be sold.
- Accounts receivable – Money owed from clients.
- Prepaid expenses – Payments made in advance for supplies or services that have not yet been received such as insurance or utilities.
Non Current Assets are divided as follows:
- Property, plant and equipment – All assets that are not ‘for sale’ to clients. For example, a cash register used by a restaurant or the actual building of a warehouse.
- Investment property – A property that the business holds in hopes of generating a profit internally as opposed to selling products to clients.
- Intangible assets – Assets that “cannot be seen, touched, or physically measured”
– for example a brand name, such as “McDonald’s” which attracts clients, or a company’s goodwill (the charity they run for example).
- Financial assets – All other financial assets not accounted for in previous categories, such as stock or short term investments.
- Biological assets – Take Living plants or animals, the maker of apple juice could own substantial apple orchards.
The liabilities portion of the balance sheet is divided as follows:
- Accounts payable – Amount that the company owes to suppliers that has not been paid for.
- Provisions for warranties or court decisions – Money set aside to pay for losses that are anticipated at some point in the future, such as lawsuits.
- Financial liabilities – Amount of money owed to bondholders.
- Current Tax – Amount of tax currently owed.
- Deferred tax – Liability for taxes owed which is postponed to future periods.
- Unearned revenue for services paid but not yet received – Money owed by customers to the company.
Shareholder’s equity refers to the assets owned by shareholders after all liabilities are accounted for.
There are two sources for shareholder’s equity:
- Sold stock – Money generated from the sale of common and preferred stock.
- Retained earnings – Money generated from a profitable business operation.
Balance Sheet Example
Below is the December 25, 2010 Apple Corp balance sheet.
Note how the formula of Assets = Liabilities + Shareholder’s Equity is applicable.
Keep in mind that actual balance sheets reported by corporations may contain more complex breakdowns should they have more complex dealings.
Income Statement Example
A company’s balance sheet provides investors the ability to compare the current balance sheet to previous editions. They can see when a company is improving current assets relative to those reported a year ago.
Often companies display this period’s balance sheet line items along site prior year’s balance sheets. This income statement is the first piece of information many investors look at when they are thinking about investing in a company.