Balance Sheet Basics - A Beginner's Guide

Whatever your reasons for looking at a business' balance sheet, whether you are planning to buy it, invest in it or simply buy a few shares, there is little point in having this incredibly important document in front of you, if don't have the first idea what you are looking at.

A firm's balance sheet is like a snap shot of its fiscal status, and will tell you everything you need to know about its current financial health; it contains information on all assets, debts, investments and the net worth of a company and so can provide a far better insight as to how it has been performing than a mere profit report can, pretty useful if you are planning to part with your hard earned cash.

A balance sheet will list a firm's assets, liabilities and the shareholder's equity and is based on the simple equation that a firm's net worth or 'equity' must equal its assets minus its liabilities.

The assets on a balance sheet will typically be split into two categories, namely 'current' assets and 'fixed' assets or less commonly 'financial' and 'non-financial' assets. 'Current' assets are cash and the likes of receivables that can be converted into cash quickly i.e. within a 12 month period and 'fixed' assets will typically include land, buildings and plant machinery and are classified as those assets that cannot be quickly converted into cash or with take longer than 12 months to do so.

The Liabilities part of the balance sheet will list everything owed to others by the company in question; they are usually also divided into types, and will most usually be listed as 'current liabilities', referring to those that must be paid quickly, again, within the year, and 'long-term' liabilities those debts that are not due immediately and can be paid back over a longer period than 12 months. Sometimes liabilities are further categorised into more detailed sub categories and may include 'provisions'; 'provision' is a term used when a company allows for an expected expense and in terms of a liability will typically refer to something like employee pay.

The final category of 'Equity' shows a firm's net worth, the total of a firm's profit and its reserves and should of course be the difference between the assets and the liabilities.

Once you understand the various language used and have familiarised yourself with the typical variations around, most balance sheets are very much the same, bar of course, the figures involved, but they are probably the single most important overview of a company one can have, which is why it is now required that they be included each year with a company's full set of accounts. Without seeing its balance sheet, it would be very hard indeed to tell how a business is performing at any given point in time.

So, if you are planning to sink your money into a particular venture, have a good long look at its balance sheet first, and make a completely informed decision.

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