Balance Sheet Simplified and Defined

The Balance Sheet Simplified

The balance sheet is a statement of financial condition on what a firm’s assets, liabilities, and stockholder’s equity are at a point in time with the essence of the total of all “assets must equal the sum of liabilities and stockholders’ equity.” (Fraser and Ormiston 37).  The balance sheet is understood easier when you break it down into its two main sections and subsections.

The Balance Sheet: Assets

Assets can be divided into multiple sections that include current assets, cash, marketable securities, accounts receivable, inventories, prepaid expenses, and property/equipment.

• Current assets are cash or assets that can be converted into cash within a year or one operating cycle.
• Marketable securities can include investments that are held to maturity, trading securities that are resold in the short term, and securities available for sale.
• Accounts receivable are balances of outstanding sales on credit less an allowance for doubtful accounts.
• Inventories are items that are held by the firm for later sales or manufacturing of additional products.  The accounting for inventories effect what is reported on the balance sheet by if it is reported as FIFO, LIFO, or average cost.
• Prepaid expenses include insurance, rent, property taxes, or utilities paid in advance.
• Property/plant/equipment contains a firm’s fixed assets that produce a long-term economic benefit.

The Balance Sheet: Liabilities

Liabilities are claims against assets and commonly include current liabilities, accounts payable, notes payable, accrued liabilities, and long-term debt.

• Current liabilities are claims against assets that must be paid in one year or one operating cycle.
• Accounts payable are obligations incurred from purchasing goods or services from suppliers on credit.
• Notes payable are short-term promissory notes to suppliers or financial institutions.
• Accrued liabilities are the recognition of an expense in the accounting records prior to the actual payment of cash.
• Long-term debt is obligations that have maturities of more than one year and include mortgages or long-term notes payable.
• Stockholders’ equity represents the ownership interest in the company that remains after the liabilities are deducted from the assets.  This equity can take the form of common/preferred stock, additional paid-in capital, and retained earnings.

References:

Fraser, Lyn M, and Aileen Ormiston. Understanding Financial Statements

Graham, Benjamin.  The Interpretation of Financial Statements.

In your opinion, what is the most confusing element of the balance sheet?