How to Read Your Balance Sheet
The
Balance Sheet is an important report in your business’s financial
statements. Most small business
owners are unsure of what all of the numbers mean on this report, so let’s see
if we can shed some light on what they mean.
A Summary of Balances
One big
characteristic of a balance sheet is that it represents one date in time, for
example, 12/31/2014. The numbers
represent balances, and since the balances change daily, a balance sheet only
represents one point in time versus a range.
Three Parts
There are
only three parts to a balance sheet, and the easiest part to understand is the
assets, or what you own. Most
balance sheets start off with cash balances, and these typically represent what
you have in the bank less any uncashed checks that could reduce your account
once they come in.
If
customers owe you money that you have invoiced but not collected, you might see
an Accounts Receivable balance on your balance sheet.
If you
sell products, the cost of all of them that you haven’t sold yet and that you
may have stored in a warehouse is in the Inventory account.
If you own
equipment, furniture, cars or trucks or something similar that lasts for years,
you will have a balance in Fixed Assets for what you paid for these items. If it’s been a while since you’ve
owned them, you may have a Depreciation account, and when you net the two, your
Fixed Asset values are reduced.
All of the
above are assets and they are listed in the first section of a balance
sheet.
What You Owe
If you owe
money for taxes, to vendors, or to employees, then it will show in the
Liabilities section which is the second of three major sections of a balance sheet. Day to day unpaid bills are in an
account called Accounts Payable.
If you
have bank loans, they usually each have a separate account like a bank account
does. Each bank loan account
represents the principal due on a loan (the interest you pay goes to another
place).
Equity
The final
section of the balance sheet is Owner’s Equity. It is the section that will vary the most depending on the
type of entity your business is set up as. For example, if your business is a corporation, then there will
be a common stock account which will represent the original amount of money you
put into the business; it will match the Articles of Incorporation that you
drew up when you incorporated. This
amount will rarely ever change for the life of the business.
There is
also usually an account called Paid-in Capital which is how much additional
money you’ve put in or taken out of the company beyond the common stock
balance.
A
corporation will also have a Retained Earnings account. This reflects accumulated profit (or
loss) through the years of operation.
If your
business is set up as a partnership, the equity section will include an account
for each partner that represents their balance in the firm, which is the net
amount of money they have put into the business over the years plus or minus the
business income or loss through the years.
Keeping It Simple
These are
the very basics of the numbers represented on your balance sheet. If you have questions about any of the
numbers, please feel free to reach out and ask.
