A balance sheet is a financial report that summarizes an individual’s, company’s or organization’s assets and liabilities plus owner’s equity at a given time – usually the end of a quarter, half-year or financial year. Assets are everything the company owns, all it owes are its liabilities, while owner’s equity are the shareholders’ investment minus what they draw/withdraw from the company plus the net income since the commercial enterprise started.
The balance sheet is also known as the statement of financial position. Owner’s equity is also called stockholders’ equity or shareholders’ equity.
It is one of the major financial statements that business owners and accountants use. The others are the income statement, the statement of stockholders’ equity, and the statement of cash flows.
The balance sheet is a statement of assets, liabilities and capital of a company at a particular point in time. It details the balance of income & expenditure over the preceding period. (Image adapted from: kaplancollectionagency.com)
The balance sheet tells us what a company’s financial position is at the end of a given date. You could call it a ‘snapshot’ of the commercial enterprise’s financial position at a point in time. For example, the amounts posted on a balance sheet dated September 31st, 2016, reflect that moment when all the transactions up to September 31st have been recorded.
According to The Free Dictionary, a balance sheet is:
“A statement of a company’s assets, liabilities, and stockholder equity at a given period of time, such as the end of a quarter or year.”
“A balance sheet is a record of what a company has and how it has come to have it. A balance sheet is divided into two main sections, one that records assets and one that records liabilities and stockholder equity.”
Balance sheet of interest to many people
Interested parties such as creditors can see what a business owns and owes on a specific date – he or she knows what the firm’s financial position is as of one moment in time.
A bank uses the information in a balance sheet to determine whether to lend a company money or expand current loans. Its details are also of interest to the company management, investors, competitors, suppliers considering offering credit terms, some customers, labor unions, and government agencies.
Everything on the left side of the balance sheet must total the same amount as the sum of all the numbers on the right – they have to balance out; hence the name.
Everything balances out
The balance sheet is so called because the assets on one side and liabilities plus owner’s equity on the other must balance out. A business entity must pay for all its assets either by taking on liabilities (borrowing money) or issuing owner’s/shareholders’ equity (taking it from investors).
Imagine that John Doe LLC takes out a 4-year $5,000 loan from the bank. Its assets – specifically its cash account – will rise by $5,000, while its liabilities – specifically its long-term debt account – will increase by the same amount, thus balancing the two sides of the sheet.
If John Doe got the $5,000 from investors, its assets would increase by that amount as would its owner’s equity.
All generated revenues in excess of total liabilities will go into the owner’s equity account, which represent the net assets held by the shareholders. These revenues will appear as inventory, cash, investments or some other asset and will be balanced on the assets side.
Ben Bernanke, an American economist at the Brookings Institution, a former Chairman of the Federal Reserve System, once said: “Deflation can be particularly dangerous when a financial system is shaky, with household and corporate balance sheets in poor shape and banks undercapitalized and heavily burdened with bad loans.” (Image: Wikipedia)
Assets, liabilities and owner’s equity are each made up of many smaller accounts that break down the components of a commercial enterprise’s finances. These accounts vary significantly from industry to industry. In fact, the same terms may have different implications depending on what type of business it is.
The term ‘Balance Sheet’ in other languages: hoja de balance (Spanish), bilancio (Italian), balancete (Portuguese), bilan (French), Bilanz (German), баланс (Russian), バランスシート (Japanese), 资产负债表 (Chinese), and ورقة التوازن (Arabic)
Video – What is a balance sheet?
In this MoneyWeek video, Tim Bennett tells us what a balance sheet is, what type of information it contains, and how we can use it.