Financial Statements – What is a Balance Sheet?

Financial statements are described as the final result of transactions between a specific company and other companies and individuals. Transactions include sales, purchases, and general cash flows. There are different types of financial statements, including balance sheets, income statements, cash flow statements, and statements of changes in equity. This article examines one of the most important financial statements, the balance sheet.

balance sheet

The balance sheet is a statement that describes a company’s financial position at a specific point in time, usually at the end of an accounting period. It shows the assets, liabilities and equity of the owners.

The balance sheet equation is as follows:

Assets = liabilities + management equity.

The two sides of the equation balance out, which is why the statement is called a balance sheet.

Assets are the economic benefits acquired and controlled by an organization as a result of past transactions. Assets are tangible; This includes cash, accounts receivable, inventory and equipment. Assets can be divided into current and non-current. Current assets, such as cash and accounts receivable, are assets that will or can be converted into cash or benefit the company within a year. On the other hand, long-term assets, which may include land, inventory, and equipment, pay off and benefit the business over a longer period of time. Accumulated depreciation is used on balance sheets to explain how the cost of long-term assets is “used up” during the process of running a business. The cost is spread over the life of the asset. Suppose a machine costs $50,000 and the useful life of the machine is 20 years. Therefore, the accumulated depreciation for the equipment in the first year is $2,500.

Liabilities can be explained simply as the amounts owed to other organizations, such as B. the transfer of assets or services that need to be provided. The liabilities are also made up of current and non-current liabilities. Current payables are those that are paid within a year and include trade payables, bills payable, short-term maturities of long-term payables, and payroll taxes. Long-term debt is debt that is paid off over a longer period of time.

Equity, also known as net assets, is the ownership interest held by the owners of the organization after liabilities have been deducted. Some examples of equity are common stock, additional paid-up capital, and retained earnings. Common stock is issued as an investment in the company. For example, in corporations, the shareholders are the ultimate owners, claiming all assets after paying off liabilities and claims to preferred stock. The capital reserve is defined as the balance paid by the investor over the declared value of the shares sold. Finally, retained earnings are the net earnings that are not distributed as dividends to owners or an organization.

So what is the purpose of a balance sheet? First, business owners use balance sheets to analyze the strength and capabilities of their business. For example, is the company ready to expand? Or should the company take immediate action to strengthen cash reserves? Balance sheets also describe trends, especially in the area of ​​receivables and payables. For example, are liabilities settled and receivables received in a reasonable time? Finally, the balance sheets of banks, investors, and vendors are examined to determine the amount of credit they will extend to the company.