What Is a Balance Sheet?
A balance sheet is a snapshot of a company’s assets, liabilities and shareholders’ equity at a specific point in time. It provides an at-a-glance view of the financial health of a business and is used alongside the income statement and cash flow statement by investors, analysts and regulators to assess the ability of a company to pay its debts, compare its net worth against competitors and assess its liquidity.
A balance sheet contains a list of a company’s long-term and short-term assets, including cash and equivalents like checking and savings accounts, and inventory or fixed assets such as machinery, equipment and buildings. It also lists a company’s short- and long-term liabilities, including accounts payable and notes payable, as well as its total shareholder’s equity, which is calculated as the remainder of total assets minus total liabilities.
It’s important to note that a company’s total assets should always equal its total liabilities and equity. If there is a negative amount in the total shareholder’s equity, then this indicates that the company is insolvent and could be liquidated or closed.
The balance sheet also includes a footnote section that notes the accounting methods and systems that were used to prepare the report. This allows observers to determine whether there is room for manipulation of the numbers such as overstating depreciation or understating inventories. Ultimately, this information can be used to help spot bad management decisions and can reveal a number of red flags to watch out for.
Depending on the size of a company, different parties may be responsible for preparing the balance sheet. In small, privately-held companies, it might be prepared by the company’s bookkeeper or accountant and reviewed by an external auditor. In larger, publicly-traded companies, the chief financial officer might be responsible for preparing the report and having it reviewed by the company’s board of directors.
While the balance sheet is a vital tool that can provide a snapshot of a company’s financial health, it is limited by its narrow scope of timing. A balance sheet only reflects a company’s position at one point in time, and without context or comparison to other historical data points, it can be difficult to draw any conclusions. This is why it’s important to use other core financial statements such as the income statement and the cash flow statement in conjunction with a balance sheet when conducting fundamental analysis or calculating key ratios. This is particularly true when analyzing the profitability of a company. A company’s earnings might look great on the balance sheet, but those profits might not be enough to meet debt repayment obligations or make dividend payments to shareholders. In such cases, a company might need to seek bankruptcy protection. This is a very serious situation that can have far-reaching effects on the entire economy. Bilanz Hattingen