As a business owner, it is important that you have a strong understanding of how company finances work as well as smart financial management skills. One of the key financial statements that you need to understand and keep an eye on is the balance sheet. This post will look at what a balance sheet is, what they can be used for and how you can make sense of them.
What Is A Balance Sheet?
Essentially, the balance sheet shows the business’s assets, liabilities and shareholder equity. It is a snapshot of what a company owns at any given time and can be useful for understanding the company’s current financial wellbeing and can be used to find ways to improve your company’s position. It is based on the Assets = Liabilities + Equity equation.
How Balance Sheets Work
As a balance sheet is a snapshot of company finances at the time, it means that they are not used for forecasting and can only be compared with previous balance sheets. They are often used by investors that can use a number of ratios, such as the debt-to-equity ratio to get an idea of a company’s financial health.
Balance sheets are divided into two sections – one will outline all of the company’s assets and the other will outline the liabilities and shareholder equity. Typically, asset accounts will be listed in order of their liquidity and divided into current assets (could be converted into cash within one year) and long-term assets (fixed and intangible assets).
Liabilities are the money that a company owes to other organisations and individuals. This can include things like rent, salaries, vendors and debt. Again, these are split into current liabilities and long-term liabilities.
Shareholder equity is the amount that the owners have invested into the business. This is also known as net assets as it is the total assets of the business minus liabilities and debt owed to others.
Why It Is Important
So, why exactly are balance sheets important? A balance sheet is one of the clearest and easiest ways to get a snapshot of the current financial health of your business. While the terminology requires some getting used to, the clear layout makes them easy to understand. They can make it easy to answer key questions about your business, such as whether or not the business currently has a positive net worth.
As a business owner, you want to make sure that you understand balance sheets and check your company’s balance sheet on a regular basis. Smart financial management is key to success in business and the balance sheet will be a quick and easy way to see what is happening in your business and whether or not you need to take action to improve your financial health.