How to read a balance sheet?
A balance sheet is the most important financial statement as it shows how much a company is worth, and a company‘s position at a given point in time. Although a balance sheet itself can be quite complex and difficult to understand for many investors, the central concept is rather simple: Assets - Liabilities = Shareholder’s equity.
Here’s a closer look at three sectors included in the balance sheet:
The assets section of the balance sheet contains the asset accounts of the business. They are accounts that lead to the generation of future cash inflows like accounts receivable or are used in the business like property, plant, and equipment (PP&E).
Assets are typically tallied as positives (+) in a balance sheet and subdivided into two parts:
Current assets and Non-current assets.
- Current assets
Current assets typically include everything a company expects it will convert into cash within a year, such as:
- Cash and cash equivalents
- Prepaid expenses
- Marketable securities
- Accounts receivable
- Non-current assets
Noncurrent assets typically include long-term investments that aren’t expected to be converted into cash in the short term, such as:
- Intellectual property
- Equipment used to produce goods or perform services
Most notably, the liabilities category includes a company's debts, which is why they’re typically tallied as negatives (-) in a balance sheet. Liabilities are also divided into two subsections: Current Liabilities and Non-current Liabilities.
- Current liabilities
Current liabilities typically refer to any liability due to the debtor within one year, which may include:
- Payroll expenses
- Rent payments
- Utility payments
- Debt financing
- Accounts payable
- Other accrued expenses
- Non-current liabilities
Noncurrent liabilities typically refer to any long-term obligations or debts which will not be due within one year, which might include:
- Bonds payable
- Provisions for pensions
- Deferred tax liabilities
3. Shareholder’s equity
Shareholders’ equity, also known as owners' equity, typically refers to anything that belongs to the owners of a business after any liabilities are accounted for. If you were to add up all of the resources a business owns (the assets) and subtract all of the claims from third parties (the liabilities), the residual leftover is the owners’ equity.