When you own a business, it is important to be an accurate accountant. You may be required to keep books and prepare a balance sheet for your business for tax, legal and / or regulatory purposes. Additionally, you may want to voluntarily prepare a balance sheet to help you monitor your business assets, liabilities, and equity. Knowing how to prepare or read and understand a balance sheet is an essential skill for all small business owners. A balance sheet is part of your business’ financial statements which also include the income statement, statement of equity, and statement of cash flows. The financial statements are linked. For example, the balance sheet is connected to the cash flow statement because the cash balance that appears on the balance sheet is the closing balance used in the cash flow statement.
Financial statements help you and others (eg, investors, lenders) assess the financial health of your business.
Find out what a balance sheet can be used for and how it can help you identify the financial strengths and weaknesses of your business.
What is a balance sheet for?
A balance sheet is a financial statement that presents the assets, liabilities and equity of a business.
Balance sheets are prepared at a specific time (for example, end of month, end of quarter, end of year).
Note: Not a period of time because the balance sheet is prepared at a given time. A balance sheet is a financial statement that presents the assets, liabilities and equity of a business.
A balance sheet includes the following elements:
- Assets: It’s everything your business owns with value. Assets can be current or non-current. This includes cash and cash equivalents, prepaid expenses, accounts receivable, real estate, inventories, investments, intangible assets and other assets of value.
- Liabilities: This includes everything your business owes. Liabilities can be current or non-current. Some examples include interest payable on loans, accounts payable (eg, rent, utilities), long-term debt (eg, loans), and deferred tax liability.
- Equity: This is anything that is owned by the shareholders of your business after any liabilities have been recognized. Also known as net assets, shareholders’ equity is the difference between a company’s total assets and its liabilities. In small businesses or sole proprietorship, net assets are called equity.
Four ways to use a balance sheet
Preparing for a balance sheet can help in a number of situations. Here are four ways to use a balance sheet for your business.
1. Assess the financial situation and health of your business
A balance sheet gives you an overview of the financial condition of your business at any given time. In addition to an income statement and a statement of cash flows, a balance sheet can help business owners assess the financial condition of their business. For example, when your company’s current assets are greater than its current liabilities, you are probably in a good position to cover any short-term financial obligations.
2. Compare your business to your competitors
Examining your balance sheet can also help you determine how you stack up against other companies in your industry. If you want to improve the financial health of your business, use the balance sheet to determine what financial habits need to be adjusted to help you compete better. You can use the following ratios to compare your business with others.
- Rate of endettement : This helps you determine the financial leverage of your business. To use this ratio, divide your company’s total liabilities by its equity.
- Quick report: This helps you determine if your business has enough short-term assets that it could liquidate to pay off short-term debts. To use this ratio, add up your cash and equivalents, marketable securities, and accounts receivable. Then divide the sum by the current liabilities.
3. Perform financial health assessments
A balance sheet can help you track your business’s performance, for example, your business’s ability to meet financial obligations. Plus, it lets you compare your current balance sheet to a past balance sheet to better understand how your business is doing over time. For example, have your business assets increased or your business has accumulated more debt?
4. Support the review of the equity in your business by an existing or potential investor?
Investors use a company’s balance sheet to assess a company’s equity as part of their consideration of possible investments. Investors also use the balance sheet to calculate financial ratios to determine a company’s financial position, including:
- Rate of endettement : This represents the total liabilities of a business divided by its equity. See the formula above. The debt-to-equity ratio helps businesses and investors determine the extent to which a business finances its operations through debt relative to its equity.
- Quick report: This determines whether a company’s short-term assets or quick assets are sufficient to cover its current short-term liabilities. See formula above.
Tips for preparing a balance sheet
The following tips may help you prepare a report:
- Determine the declaration date (for example, December 31) and prepare your balance sheet at regular intervals (eg, annually) – this will allow you to compare your company’s current financial situation to previous periods and track changes.
- List the assets, liabilities of your business and determine which are current and which are non-current – it will help you better understand what your assets and liabilities are and how to best classify them.
- Calculate equity and check that your balance sheet is balanced – this will help you spot errors.
- Use a template or sample balance sheet – this will help you with the format.