Understand a balance sheet
Whether or not you have an accountant, every business owner
should be able to draw up and use a balance sheet - and be able to
understand it. It really helps you stay on top of finances and
understand what state your business is in. And this guide is here
to help, by explaining:
- What a balance sheet is
- Why it's important
- What's in a balance sheet
- What you're aiming for
What a balance sheet is
A balance sheet gives a snapshot of the state your business is
in, measured in terms of assets and liabilities. Assets are
things or sums of money you own or are owed - cash, inventories,
accounts receivable from customers, property, equipment.
Liabilities are things or amounts you owe others - bank debt,
accounts payable to suppliers or creditors.
- A snapshot of the state your business is in
- Made up of different types of assets and liabilities
Why it's important
Your balance sheet is used to assess the value of your business
at any given point. It helps you keep track of finances, and ensure
that your liabilities don't outweigh your assets a- which helps
keep you out of serious debt and financial trouble. It's also one
of the first things an investor or bank manager will want to see,
as it explains the state of your business financially. It's useful
for your annual accounts too.
- Assess your business's value
- Keep on top of finances
- For showing investors and bank managers
- Useful for annual accounts
What's in a balance sheet
Anything within or owed by your business that has monetary value
- or that is money - is included in the balance sheet. Everything
is then split into four groups. Things that can be liquidated (sold
for cash) within one year, including stock, cash, and money owed by
customers, are current assets. Think of "current" as short-term.
Fixed assets, on the other hand, are more long-term - including
property, machinery, patents and long-term investments. Current
liabilities, then, are what the business owes in the short-term,
such as money owed to suppliers, taxes due, short-term loans and
overdrafts. Long-term liabilities are what the business owes
in the long-term - to be paid after one year, as well as capital
and reserves. You then have total assets - the combined value of
all assets, remembering to account for depreciation and interest -
and total liabilities.
- Current assets, fixed assets, current liabilities and long-term
What you're aiming for
Total assets should always equal liabilities plus owner's equity
if everything's calculated correctly - as if you sold all the
assets and paid off the liabilities, what you'd have left is the
equity. Your current assets should hopefully always be greater than
your current liabilities. If they are, you're generally able to pay
bills and can survive unexpected costs. Ideally, a healthy business
has current assets that are twice as large as current liabilities.
If your current assets are smaller than current liabilities, you're
probably struggling financially.
- Total assets equal liabilities plus owner's equity
- Aim to have greater current assets than current
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