Preparing Financial Statements – The Balance Sheet
A balance sheet provides a financial snapshot of your business at a frozen point in time. Also known as the statement of financial position, this report will give you a clear picture of where your business stands. The balance sheet contains current pictures of your assets, liabilities, and equity; looking at it lets you see what your company has and how much it owes, as well as your revised equity share.
FACT
Of all the financial statements, the balance sheet is the only one that comes with a specific date rather than an activity period. That’s because it tells you the balance of your permanent accounts on a fixed day—the last day of the accounting period.
Balance sheets come with a standard format, although the layout has two options (vertical or side by side). The report always contains the three permanent account categories: assets, liabilities, and owner’s equity. It also follows the rule of the accounting equation; assets must equal liabilities plus owner’s equity. In the vertical format, the three categories are listed one after the other; assets come first, followed by liabilities, and finally equity. In the side-by-side format, assets appear on the left side of the statement, and liabilities and equity go on the right. How you decide to lay it out is really a matter of personal preference.
As you learned in before post, individual assets and liabilities fall into different categories. Those categories appear as sections on the balance sheet, and accounts are listed in the associated categories. This practice makes it easier to do a quick analysis of your balance sheet at a glance.
Asset Categories
On your balance sheet, your company’s assets will be broken out into four basic categories: current assets, long-term investments, fixed assets, and intangible (or other) assets. Most new and small businesses will find the bulk of their assets in the current or fixed categories.
Current assets include anything expected to be converted into cash within a year of the balance sheet date. On the report, they are listed in order of liquidity; the ones that can be turned into cash the fastest are listed first.
Here’s the typical listing of current assets (in order) for small businesses:
- Cash
- Accounts receivable
- Inventory
- Prepaid expenses
Your company may also have some short-term investments (such as a six-month CD). In addition, it may have multiple cash and prepaid expense accounts, but you can list these as combined totals on the formal balance sheet.
Most companies have some fixed assets; manufacturing companies usually have the most, and the most expensive. Common fixed assets owned by the majority of businesses include office furniture and equipment, computer systems, vehicles, and shop displays. Other examples include land, buildings, and heavy machinery. If your company has fixed assets on the balance sheet, it will also have accumulated depreciation, the fixed-asset contra account.
ESSENTIAL
Assets fall only into the fixed-asset category if they’re being used by your business. If your company sells trucks, for example, those trucks count as inventory and not as fixed assets. That doesn’t mean you can’t ever sell your assets, or that you have to reclassify them as inventory if you do. It just means that their main purpose is use, not being sold.
Long-term investments are just regular investments that your company owns as a way to generate a little extra income over the long haul. These investments can be stocks and mutual funds, or even land that the company is holding on to strictly for investment purposes. Your company may have these when you want to hold on to earnings for future plans but also want to earn more than you’ll get as interest on a simple savings account. Intangible assets include things such as patents and trademarks, which are long-term assets with plenty of value but no real physical form. Their decline in value is measured over time as amortization expense, but there’s usually no accumulated amortization account. Instead, you just decrease the asset account as it loses value over time.
Liability Categories
Liabilities come in two flavors: current and long-term. Current liabilities include any debts or obligations that will come due within one year of the balance sheet date. Long-term liabilities will be outstanding for more than one year; however, the part of long-term liabilities that is due in the upcoming twelve months is usually put in the current category.
Current liabilities include the day-to-day stuff, such as accounts payable and sales tax payable. It can also include accrued expenses for companies that use the accrual accounting method. Long-term liabilities are usually for loans, such as business startup loans or mortgages.
A Sample Balance Sheet
Now that you know what to put on your balance sheet, here’s how it will look when it’s all laid out. This sample balance sheet contains the accounts most commonly used by new and small businesses; your company may have different or additional accounts.
The owner’s equity in this balance sheet is for a sole proprietorship or single-member LLC. To learn about the different equity sections for partner- ships, multimember LLCs, and corporations.
Jill’s Toy Shop
Balance Sheet: December 31, 2006
Assets
Current Assets
Cash: $1,000
Accounts Receivable: 1,300
Inventory: 3,800
Prepaid Expenses: 2,200
Total Current Assets: $8,300
Computer Equipment: $3,500
Office Equipment: 2,100
Office Furniture 850 Store Displays: 3,800
Vehicles: 21,500
Less: Accumulated Depreciation: 6,800
Total Fixed Assets: $24,950
Other Assets
Start-Up Costs, Less Amortization: $850
Total Assets: $34,100
Liabilities
Current Liabilities
Accounts Payable: $1,950
Total Taxes Payable: 2,750
Accrued Expenses: $1,200
Total Current Liabilities: $5,900
Long-Term Liabilities Loan Payable: $21,800
Total Liabilities: $27,700
Owner’s Equity Jill Smith, Capital: $6,400
Total Liabilities: $34,100