Concept of Balance Sheet

Balance sheet

In formal bookkeeping and accounting, a balance sheet is a statement of the book value of all of the assets and liabilities (including equity) of a business or other organization or person at a particular date, at the end of a period such as a "fiscal year," as distinct from an income statement, also known as a profit and loss account (P&L), which records revenue and expenses over a specified period of time.
A balance sheet is often described as a "snapshot" of the company's financial condition on a given date. Of the four basic financial statements, the balance sheet is the only statement which applies to a single point in time, instead of a period of time.
A simple business operating entirely in cash could measure its profits by simply withdrawing the entire bank balance at the end of the period, plus any cash in hand. However, real businesses are not paid immediately; they build up inventories of goods to sell and they acquire buildings and equipment. In other words: businesses have assets and so they could not, even if they wanted to, immediately turn these into cash at the end of each period. Real businesses also owe money to suppliers and to tax authorities, and the proprietors do not withdraw all their original capital and profits at the end of each period. In other words businesses also have liabilities.
A modern balance sheet usually has three parts: assets, liabilities and shareholders' equity. The main categories of assets are usually listed first and are followed by the liabilities. The difference between the assets and the liabilities is known as the 'net assets' or the 'net worth' of the company.
The net assets shown by the balance sheet equals the third part of the balance sheet, which is known as the shareholders' equity. This balance is not a coincidence. Records of the values of each account in the balance sheet are maintained using a system of accounting known as double-entry bookkeeping.
Balance sheet structure
The following balance sheet structure is just an example. It does not show all possible kinds of assets, equity and liabilities, but it shows the most usual ones. Because it shows Goodwill it could be a consolidated balance sheet. Monetary values are not shown, summary (total) rows are missing as well.
Balance Sheet of XYZ, Ltd. as on 31 December 2005

ASSETS

Current Assets
Cash and cash equivalents
[Marketable Securities]
Accounts receivable
Inventories
Prepaid Expenses
Investments held for trading
Other current assets

Non-Current Assets (Fixed Assets)
Property, plant and equipment
Less : Accumulated Depreciation
Goodwill
Other intangible fixed assets
Investments in associates
Deferred tax assets

LIABILITIES and EQUITY

Current liabilities
Accounts payable
Current income tax liabilities
Current portion of bank loans payable
Short-term provisions
Other current liabilities

Long term Liabilities (Fixed Liabilities)
Bank loans
Issued debt securities
Deferred tax liability
Provisions
Minority interest


Equity
Share capital
Capital reserves
Revaluation reserve
Translation reserve
Retained earnings
Equity valuation
The real value to a purchaser of the business or a shareholder may be different from the net assets shown by the balance sheet. This is because factors that affect the value of a business may not be recorded yet. For example, a purchaser will be interested in the future earnings of the business, whether assets such as property have been revalued recently, and whether there are potential liabilities in the future such as lawsuits. The value of the assets in the balance has also been based on the assumption that the business is a going concern, otherwise the break-up value of the assets may be far less than the value in the balance sheet.
Constructing a Balance Sheet
Case Study
1.1
A new business starts up as a limited company called Sunrise Ltd by raising $10,000 from the owners i.e. share holders. The money is put in to a new bank account. What would the assets, liabilities and equity be?
Assets:
Bank Balance 10,000
Equity & Liabilities:
Share Capital 10,000
1.2
They then use 6,000 of its bank account to buy a delivery van. Assets and liabilities after this transaction:
Assets:
Bank Balance 4,000
Delivery Van 6,000
Equity & Liabilities:
Share Capital 10,000
1.3
Sunrise Ltd then buys some inventory at 3,000 on credit. Assets and liabilities after this transaction:
Assets:
Bank Balance 4,000
Delivery Van 6,000
Inventory 3,000
Liabilities:
Accounts Payable 3,000 (to be paid to creditors)
Equity:
Share Capital 10,000
Total assets must always equal total liabilities (and equity). It is inevitable as the liabilities (and equity) are providing the funds that we are spending on these assets.
1.4
Shortly afterwards, after selling 1,000 of inventory for 2,500, payment of 2,600 of the accounts payable and the purchase of 2,200 of machinery financed by a 2,200 bank loan, the assets and liabilities change to the following:
Sunrise Ltd.
Balance Sheet
As of December 31, 2005
-----------------------------------
Fixed Assets
Delivery Van 6,000
Machinery 2,200
-----------------------------------
Total fixed assets 8,200
Current Assets
Bank Balance 1,400
Inventory 2,000
Accounts Receivable 2,500
-----------------------------------
Total 5,900

Current Liability
Accounts Payable 400
-----------------------------------
Net current assets 5,500
Total assets 13,700
Long-Term Liabilities
Loans Repayable 2,200
-----------------------------------
Total Long Term Liabilities 2,200
-----------------------------------
NET ASSETS 11,500
-----------------------------------
Shareholders' Equity
Share Capital 10,000
Retained profits 1,500
-----------------------------------
TOTAL SHAREHOLDERS' EQUITY 11,500
-----------------------------------
Points to note:
• Must be headed with the name of the reporting entity (e.g. Sunrise Ltd) and the date.
• The van has not been depreciated and there are no other trading expenses
• The terms 'Current Liability' and 'Long-Term Liability' are the traditional names possibly used by sole traders or partnerships. Limited companies may use the phrases 'Liabilities: Amounts falling due within 1 year' and 'Liabilities: Amounts falling due after 1 year'.
• The Total Equity may also be called the 'Net Worth'.
• The Net Worth is in principle what the company is worth, it shows the monetary amount that would effectively be left, if all assets were sold and all liabilities paid off.

SAMPLE BALANCE SHEET

Assets

Current Assets:
Cash 178,000
Accounts Receivable 50,000
Less: Reserve for Bad Debts 25,000 25,000
Merchandise Inventory 125000 0
Prepaid Expenses 150000 0
Notes Receivable 14500 0
Total Current Assets 203,000

Fixed Assets:
Vehicles 300,000
Less: Accumulated Depreciation 0 300,000

Furniture and Fixtures 125,000
Less: Accumulated Depreciation 0 125,000

Equipment 275,000
Less: Accumulated Depreciation 0 275,000

Buildings 400,000
Less: Accumulated Depreciation 0 400,000

Land 600,000
Total Fixed Assets 1,700,000

Other Assets:
Goodwill 0
Total Other Assets 0

Total Assets 1,903,000


Liabilities and Capital

Current Liabilities:
Accounts Payable 500,000
Sales Taxes Payable 145,000
Payroll Taxes Payable 75,000
Accrued Wages Payable 300,000
Unearned Revenues 400,000
Short-Term Notes Payable 180,000
Short-Term Bank Loan Payable 0
Total Current Liabilities 1,600,000

Long-Term Liabilities:
Long-Term Notes Payable 100,000
Mortgage Payable 0
Total Long-Term Liabilities 100,000

Total Liabilities 1,700,000


Capital:
Owner's Equity 125,000
Net Profit 78,000
Total Capital 203,000

Total Liabilities and Capital 1,903,000

Dr Abdul Aziz Awan