Your balance sheet: the best report card
In this article you will learn:
What is a balance sheet and why is it so important
The most important part of a balance sheet
How to read a balance sheet
How to analyse your balance sheet
Accounting tools for small businesses
When you own a business, it’s important to know just how well it’s performing. You may be making many sales, but are these sales really profitable? A balance sheet, which is a statement of a business’s financial position is the tool used to judge this. Together with the income statement (which shows how much income is coming into the business, compared to the expenditure, or how much you are spending) and the cash flow statement (which monitors your cash flow), a balance sheet is one of the most important financial statements.
What is a balance sheet?
Every business owner has assets (valuable items it owns) as well as liabilities (money it owes). The balance sheet shows you how the value of your assets compares to the liabilities. This can help you determine how healthy the business is. If the business’ liabilities are larger than its assets, it may be time to consider new growth strategies.
Your business’ balance sheet can also show you how much the business has grown over time. And, if you’re looking for someone to invest in the business, it’s a useful record for potential investors. A bank may also look at your balance sheet if you apply for a loan, to decide whether you will be able to repay the funds.
The most important part of a balance sheet
The first part of a balance sheet looks at the various assets owned by a business. Assets are items of value, which a business owner will use to make sure the business is able to carry out its day-to-day operations. For example, while a hairdresser’s assets would include furniture and cutting equipment, a cleaning company’s assets would include cleaning solutions and equipment.
There are different types of assets:
Current assets are assets that can be converted into cash within a year. Shampoos and hair treatments are the current assets you would find at a hairdresser, for example.
Fixed assets include items like your premises (if you own the building), the equipment you own and your machinery. These cannot be converted to cash as easily or as quickly.
Assets may be tangible or intangible:
Tangible assets are items that can be seen. Examples of tangible assets include your office furniture and your computer.
Intangible assets cannot be seen, but add to the value of your business. Your brand is one example of an intangible asset.
There is a difference between operating assets (things like your building, which you need to actually do business) and non-operating assets (which aren’t critical for day-to-day operations). Examples of non-operating assets are vacant land or equipment that you are not using.
Once the balance sheet has listed all the different type of assets the business owns, it lists the liabilities. These include:
Current liabilities like debt, which have to be repaid within a year. An example here is an invoice to pay a supplier for stock, which is due in 90 days.
Non-current liabilities, meanwhile, are repaid over a period longer than a year. A business loan, for example, is a non-current liability.
The last item listed on a balance sheet is the owner’s equity or earnings. This is the amount that you, as the business owner, have invested into the company to bring it into existence.
How to read your balance sheet
Every balance sheet is divided into two columns. Assets are always listed on the left-hand side, with liabilities and the owner’s equity listed on the right-hand side.
These columns are often represented as the equation: Assets = Liabilities + Owner’s equity. This is known as the balance sheet equation. It’s important that this equation always balances; in other words, your assets must always add up to the same amount as your liabilities together with the owner’s equity. If it doesn’t, this means that you owe more to debtors than you actually own, or that you may have made a mistake when recording your assets and liabilities.
To analyse your balance sheet, you should look at your different assets and your liabilities. These will show you what the business owns, compared to what it owes.
Looking at the difference between assets and liabilities will also help you understand how liquid your business is, or how easy it would be to convert your assets to cash. It will help you understand the financial structure of your business, and how efficiently it is being run.
Accounting tools for small business
These accounting tools will help you compile and analyse your balance sheet:
Fiskl: Helps you make charts of your accounts, customised to suit your business structure and needs.
Xero: Allows you to automate all admin related to bookkeeping.
Zoho: Automates all income as well as outgoing funds so that you can easily keep track of the business’s financials.
A final thought
Your balance sheet shows you how well your business is performing at a specific point in time. It is therefore necessary to create new balance sheets every month, or every quarter, as the financial standing of your business may change.
What can you do now?
Looking for a quick and easy way to compare your business’s digital capabilities to other businesses like yours? Why not take our free business assessment?
Key Takeouts
A balance sheet is an important financial statement that shows how your company is performing at a specific time.
