Meaning Of Balance Sheet In Accounting

What Is Balance Sheet: Meaning, Format And All You Need To Know

A balance sheet reports a company's assets, liabilities and shareholders' equity at a specific point in time, and provides a basis for computing rates of return and evaluating its capital structure. It is a financial statement that provides a snapshot of what a company owns and owes, as well as the amount invested by shareholders. Balance sheet is not an account, it is a statement showing the balance remaining in the books. The balance sheet must be headed as "The balance as at 31st......."

The balance sheet adheres to the following equation, where assets on one side, and liabilities plus shareholders' equity on the other, balance out:

Assets = Liabilities + Shareholders' Equity
This is intuitive: a company has to pay for all the things it owns (assets) by either borrowing money (taking on liabilities) or taking it from investors (issuing shareholders' equity).

Assets, liabilities and shareholders' equity are each comprised of several smaller accounts that break down the specifics of a company's finances. These accounts vary widely by industry, and the same terms can have different implications depending on the nature of the business. Broadly, however, there are a few common components investors are likely to come across.
What Is Balance Sheet: Meaning, Format And All You Need To Know
Amazon's Balance sheet

Within the assets segment, accounts are listed from top to bottom in order of their liquidity, that is, the ease with which they can be converted into cash. They are divided into current assets, those which can be converted to cash in one year or less; and non-current or long-term assets, which cannot.

Here is the general order of accounts within current assets:
  1. Cash and cash equivalents: the most liquid assets, these can include Treasury bills and short-term certificates of deposit, as well as hard currency
  2. Marketable securities: equity and debt securities for which there is a liquid market
  3. Accounts receivable: money which customers owe the company, perhaps including an allowance for doubtful accounts (an example of a contra account), since a certain proportion of customers can be expected not to pay
  4. Inventory: goods available for sale, valued at the lower of the cost or market price
  5. Prepaid expenses: representing value that has already been paid for, such as insurance, advertising contracts or rent

  • Long-term investments: securities that will not or cannot be liquidated in the next year
  • Fixed assets: these include land, machinery, equipment, buildings and other durable, generally capital-intensive assets
  • Intangible assets: these include non-physical, but still valuable, assets such as intellectual property and Goodwill.
  • Liquid assets: These are assets that can be easily turned into cash e.g debtors, investment, etc
In general, intangible assets are only listed on the balance sheet if they are acquired, rather than developed in-house; their value may, therefore, be wildly understated—by not including a globally recognized logo, for example—or just as wildly overstated

Liabilities are the money that a company owes to outside parties, from bills it has to pay to suppliers to interest on bonds it has issued to creditors to rent, utilities and salaries. Current liabilities are those that are due within one year and are listed in order of their due date. Long-term liabilities are due at any point after one year.

Current liabilities accounts might include:
  • Current portion of long-term debt
  • Bank indebtedness
  • Interest payable
  • Rent, tax, utilities
  • Wages payable
  • Customer prepayments
  • Dividends payable and others
Long-term liabilities can include:
  1. Long-term debt: interest and principal on bonds issued
  2. Pension fund liability: the money a company is required to pay into its employees' retirement accounts
  3. Deferred tax liability: taxes that have been accrued but will not be paid for another year; besides timing, this figure reconciles differences between requirements for financial reporting and the way tax is assessed, such as depreciation calculations
Some liabilities are off-balance sheet, meaning that they will not appear on the balance sheet. Operating leases are an example of this kind of liability.

Shareholders' Equity
Shareholders' equity is the money attributable to a business' owners, meaning its shareholders. It is also known as "net assets," since it is equivalent to the total assets of a company minus its liabilities, that is, the debt it owes to non-shareholders.

Retained earnings are the net earnings a company either reinvests in the business or uses to pay off debt; the rest is distributed to shareholders in the form of dividends.

Treasury stock is the stock a company has either repurchased or never issued in the first place. It can be sold at a later date to raise cash or reserved to repel a hostile takeover

Additional paid-in capital or capital surplus represents the amount shareholders have invested in excess of the "common stock" or "preferred stock" accounts, which are based on par value rather than market price. Shareholders' equity is not directly related to a company's market capitalization: the latter is based on the current price of a stock, while paid-in capital is the sum of the equity that has been purchased at any price.
What Is Balance Sheet: Meaning, Format And All You Need To Know

The data displayed on the balance sheet provides a business with a better idea of the financial state of the business in the given time period. Questions about liquidity and efficiency are two of the more common aspects of a business revealed in the balance sheet.

Liquidity: liquidity is generally more thoroughly measured by applying one or more ratios to produce a percentage that can easily be compared against previous, future, and market percentages. The ratios most commonly used are the current ratio and the quick ratio.

Efficiency: efficiency seems fairly straightforward as it involves how well a business is managing its assets including working capital . This provides a better idea of the financial efficiency on a day-to-day basis for the given time period.

The balance sheet can also provide insight into a business's leverage, which can illustrate the amount of risk being taken, as well as the returns, such as returns on investment (ROI).

NOTE: The balance sheet can be prepared either in VERTICAL FORMAT or T FORMAT

Balance sheet as at 31st December, 1998
                                                   $                  $                 $
Motor van                                                      X
Plant and Machinery                   X
LESS: Depreciation                    X                X
Furniture and fitting                                      X                 X

Stock                                                              X
Debtor                                                            X
Payment in advance                                       X
Income in arrears                                           X
Cash in hand                                                  X
Cash at bank                                                  X                 X

Loan                                                               X
Bank overdraft                                               X
Creditor                                                          X
Bills payable                                                  X
Income in advance                                         X
Expenses accrued                                          X                 X

Capital                                                                               X
Add Net profit                                                                   X
Less drawings                                                                    X

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