The Balance Sheet

This article is a sequel to a previous one on the types of financial statements and their users. As a reminder, the major financial statements are the balance sheet, statement of profit or loss (income statement), statement of cash flows, and statement of change in equity. In this article, an in-depth analysis of the balance sheet statements would be carried out.

The balance sheet is also known as the statement of the financial position of an entity. It takes a snapshot of the financial position of a company at a particular date. The balance sheet provides information on the level of assets, liabilities, and equity. Let’s assume that you require N40,000 to start a business and you raise N15,000 (contribution from family, friends, and your savings) and the balance of N25,000 from the bank loan, the company must reflect these amounts as at a particular date. It does so through the balance sheet. Irrespective of how the N15,000 portion was raised the balance sheet only captures it as one under what is referred to as the Entity Concept. However, the company keeps records of who invested and in what proportion to pay dividends later. Another accounting concept employed in the balance sheet is the dual aspect concept. Here the left side of the basic accounting equation, assets must equal the left side- liabilities and owner equity. In essence, the liability and equity portions reveal how much of the assets were financed by debt or owners.

What are Assets?

Assets are what the company owns. They can be current and non-current. Current assets are easily converted to cash or near cash usually within one year, while non-current assets take a longer time. For an item to be considered an asset it must meet the three conditions below.

1. It must have been acquired at a measurable cost
2. It must have present or future benefit to the company
3. It must be owned by the company

What are liabilities?

There are obligations an entity has to outsiders such as banks. Any entity other than the owners that give the company money is referred to as creditors.

What is Owners Equity?

On the other hand, are obligations an entity has to its owners. It is otherwise called Shareholder or Stockholder’s equity. It consists of two parts – the money contributed (contributed capital) and the portion earned from doing the business (retained earnings). This second portion known as retained earnings is the difference between revenue and expenses (net income), less dividend payments. Thus, any change whether positive or negative in the net income, less dividend would also reflect a change in retained earnings. It is also important to note that the contributed capital part of the owner’s equity does not change with variations in stock value because it is only the initial amount contributed that reflects on the balance sheet. However, investors would be interested in the market value of the stock for a return on investment or capital appreciation. In the latter case, if the stock value increases, they can sell for higher than they bought it.

Conclusion

The Balance sheet takes a snapshot of a company’s assets, liabilities, and owner’s equity at a particular date. It is based on the dual aspect concept which recommends that the left side (asset) of the basic financial equation equals the right side (total liability and equity). In a subsequent write-up, the income statement would be analysed.

#EMBA 27