What Is a Business Balance Sheet and What Goes On It?
Last Updated July 24, 2024
As one of the three main financial statements that are used to evaluate a business’s overall health, the balance sheet plays an important role in revealing a company’s overall health and where improvements might need to be made. But what is a balance sheet, how do you make one, what are the different types of balance sheets, and why are they so important for your company?
Continue reading to find out.
What Is a Business Balance Sheet?
The business balance sheet is a financial document that serves as a way of illustrating your company’s current assets and liabilities as well as current shareholder or owner equity. The purpose of a balance sheet is to provide a snapshot of the business’s current financial picture, and while it doesn’t show trends over time, it can be compared to previous sheets to get an understanding of your company’s financial health.
The information contained in business balance sheets is often used to derive a variety of ratios (such as the debt-to-equity ratio) that help determine the health of the business. It can be used alongside the cash flow statement and profit & loss (or income) statement to guide decisions by investors and owners.
What Does a Balance Sheet Show?
The business balance sheet shows a business’s assets, liabilities, and shareholder/owner equity. It is meant to be “balanced”—with total numbers expected to follow the balance sheet formula of total assets equaling total liabilities and shareholder equity.
Components of a Balance Sheet
We know that the components of a balance sheet are assets, liabilities, and shareholder equity, but understanding what falls under the primary categories of assets, liabilities, and shareholder equity ensures that nothing gets accidentally excluded.
Assets
Assets on a balance sheet include both fixed and current assets. Current assets are short-term assets that can be converted into cash or cash equivalents relatively quickly. These include cash, inventory, stocks, and accounts receivable. Fixed assets, on the other hand, are tangible, owned assets that are used to generate income. This could include land and buildings, vehicles and machinery, software, and so on.
Liabilities
Liabilities include all short and long-term business debts. This includes accounts payable, taxes payable, and long-term bonds as well as loans that were used to finance the purchase of assets.
Shareholder equity includes common stock and retained earnings. For small businesses, this may be referred to as owner’s equity—or the owner’s financial contribution to the business. A company’s retained earnings refer to net earnings that can be reinvested into the business.
Importance of a Business Balance Sheet
The overarching importance of a balance sheet is that it enables the viewer to evaluate the level of financial risk associated with the company.
As we’ll break down later on, the information provided can be used by the business’s owners and shareholders to evaluate current risk and calculate other ratios to look at the health of the business. It is used by potential lenders and investors to determine if they should offer funds to the company. And it can even be used by employees as they decide whether a potential employer offers safe long-term prospects.
By giving everyone who is (and could be) involved with the business a better understanding of its financial health, the balance sheet enables better decision making.
Example of a Business Balance Sheet
Not sure how to make a balance sheet? Remember that the figures on your document should follow this formula:
Assets = Liabilities + Shareholder’s Equity
Your assets should include totals for both current and fixed assets, which may or may not be broken out into subcategories for the different types of assets you have. Liabilities and shareholder (or owner) equity should include total amounts and may similarly be broken out into applicable subcategories. Generally speaking, you should be able to calculate your owner’s equity by subtracting liabilities from total assets.
If your assets do not equal your liabilities and shareholder’s equity, you might have missing or incorrect data.
Here’s a balance sheet example to help you get started:
| Assets | |
| Current assets | |
| Cash | 100,000 |
| Accounts receivable | 40,000 |
| Inventories | 30,000 |
| Total current assets | 170,000 |
| Fixed assets | |
| Equipment (including software) | 25,000 |
| Furniture | 5,000 |
| Vehicle | 20,000 |
| Total fixed assets | 50,000 |
| Total Assets | 220,000 |
| Liabilities & Equity | |
| Current liabilities | |
| Accounts payable | 15,000 |
| Other liabilities | 3,500 |
| Total current liabilities | 18,500 |
| Long-term liabilities | |
| Mortgage payable | 60,000 |
| Total long-term liabilities | 60,000 |
| Total Liabilities | 78,500 |
| Shareholders’ Equity | |
| Capital | 90,000 |
| Retained Earnings | 51,500 |
| Total Shareholders’ Equity | 141,500 |
| Total Liabilities and Shareholders’ Equity | 220,000 |
Uses of a Business Balance Sheet
There are several valuable purposes of a balance sheet for businesses of all sizes.
1. Evaluate Risk
By listing all of a business’s assets and liabilities in a single easy-to-read document, it becomes much easier for business owners to evaluate their overall financial risk. Business owners might recognize that they have too much debt, not enough current assets or cash, or other issues. Identifying and addressing these concerns can dramatically improve cash flow management.
2. Obtain Loans and Investments
Lenders and potential investors typically require a business balance sheet as part of their process of assessing a company. The information on it helps them determine the company’s overall financial health, its creditworthiness, and ability to cover its short-term liabilities. The information contained in the balance sheet will often determine whether or not a lender or investor agrees to provide money to the business.
3. Calculate Other Financial Ratios
The balance sheet can play a helpful role in analyzing cash flow and other critical areas, as many financial ratios draw their information directly from this document. Using these ratios based on the figures on the document can help the company measure its performance over time or compare itself to the competition.
4. Attract and Retain Talent
Public companies are required to disclose their balance sheet, which can play a big role in attracting and retaining top talent. After all, employees want to work for companies that have a stable and secure future.
Different Types of Balance Sheets
There are a few different types of balance sheets a business may use for its reporting and analysis. Understanding which options are available can help you determine the right reporting method for your business.
Classified Balance Sheet
A classified balance sheet offers a slightly more in-depth analysis than a standard sheet. The classified balance sheet breaks down assets, liabilities, and equity into even more specific categories or classifications. For example, this might include classifications for cash, prepaid investments, inventory, and accounts receivable under current assets.
Budgeted Balance Sheet
A budgeted balance sheet is designed to estimate the future value of assets, liability, and shareholder equity based on factors like inflation and changes to the business’s production capacity. This can help businesses evaluate future needs and potential issues that might need to be resolved.
Common Size Balance Sheet
The common size balance sheet expands on a standard sheet by displaying both the numerical (dollar amount) value of each asset, liability, or equity item as well as the percentage of individual items that make up each total. For example, the classifications of cash, accounts receivable, and inventory would each be assigned a percentage based on the proportion of the total assets they contribute to. This makes it easier to compare the makeup of different assets and liabilities.
Comparative Balance Sheet
A comparative balance sheet includes the numbers from your existing and previous balance sheets (such as the prior year or quarter). This makes it easier to analyze trends over time by offering a direct comparison to the business’s past position.
Limitations of a Balance Sheet
As useful as the balance sheet is, it does have some limitations. One of the biggest limitations is that a standard balance sheet only presents an individual snapshot of a specific time. Unless compared to previous documents, it doesn’t show trends or provide the needed context to know if the numbers are good or bad.
Sometimes, different methods for calculating depreciation and inventory can also lead to inaccuracies that make the business’s financial situation look better or worse than it actually is. This can also occur in part because some items on the balance sheet, such as accounts receivable, often rely on estimates instead of exact numbers.
Because of these limitations, the business balance sheet should be used in conjunction with the statement of cash flows and profit and loss statement. A comprehensive analysis that includes all three forms will provide a more accurate and reliable understanding of your financial situation—including which way your finances are currently trending.
In-Summary: What Is a Business Balance Sheet?
A business balance sheet is arguably the most important financial statement there is, and it’s vital to not only create them but to know how to analyze them and make adjustments based on your analysis.
The most practical business owners make a habit of creating the three essential financial statements each quarter. Once you’ve made your balance sheet, you can get to making your profit & loss statement and building out your statement of cash flows.
Business Balance Sheet FAQs
Where is owner’s equity on a balance sheet?
Owner’s equity is recorded at the bottom of the balance sheet. It is calculated by subtracting the business’s total liabilities from its total assets.
Where does net income go on a balance sheet?
Net income is found on the equity section of the balance sheet as a measurement of retained earnings. Net income is calculated by recording revenue, deducting expenses, and accounting for depreciation and amortization.
How do you calculate retained earnings on a balance sheet?
Retained earnings are calculated by starting with the retained earnings your business had at the beginning of the time period being measured. You then add in the business’s net income (or subtract the net loss) from the current period and then subtract any cash dividends or stock dividends.
What are the three major financial statements?
The three major financial statements used by most businesses are the income statement (or profit & loss statement), balance sheet, and cash flow statement.
What financial statement is net income on?
Net income is typically calculated on a business’s income statement (also sometimes referred to as the profit & loss statement). However, it may also appear on a balance sheet and cash flow statement.
Michael McCareins is the Content Marketing Associate at altLINE, where he is dedicated to creating and managing optimal content for readers. Following a brief career in media relations, Michael has discovered a passion for content marketing through developing unique, informative content to help audiences better understand ideas and topics such as invoice factoring and A/R financing.
