This article is part of our Business Startup Guide, a curated list of our articles that will get you up and running in no time!
The idea behind a balance sheet is fairly straightforward: it shows your company’s assets, liabilities, and owner’s equity at a specific point in time. Put simply, a balance sheet shows what a company owns (assets), what it owes (liabilities), and how much owners and shareholders have invested (equity).
A balance sheet always has to balance—hence the name. Assets are on one side of the equation, and liabilities plus owner’s equity is on the other side.
Assets = Liabilities + Equity
If you think about it a little more, this is actually common sense. Companies have to pay for everything that they own (assets) by either borrowing money (liabilities) or by getting money from owners and investors (equity).
In addition to showing you what a company owns and what it owes, balance sheets can also tell you a company’s net worth.
Trevor Betenson, our CFO here at Palo Alto Software (makers of Bplans), offers this insight about reading your balance sheet: “By subtracting liabilities from assets, you can determine your company’s net worth at any given point in time.”
Net worth = Assets – Liabilities
Now that we’ve had a general overview of the balance sheet, let’s take a deeper look at the information a balance sheet should include. If you’re just getting started, download our free Balance Sheet Template.
In this article, I’ll review:
- The components of a balance sheet
- The importance of a balance sheet in a business plan
- Balance sheet examples
Line by line breakdown of a balance sheet:
As businesses differ from one another, so will their assets and liabilities. The inclusion of certain line items and their titles will vary slightly from business to business, but the equation remains the same: your business’s assets must equal its liabilities plus equity.
Assets on a balance sheet or typically organized from top to bottom based on how easily the asset can be converted into cash. This is called “liquidity.” The most “liquid” assets are at the top of the list and the least liquid are at the bottom of the list.
In the context of a balance sheet, cash means the money you currently have on hand. In business planning, the term “cash” represents the bank or checking account balance for the business, also sometimes referred to as “cash and cash equivalents” or “CCE.”
A cash equivalent is an asset that is liquid and can be converted to cash immediately, like a money market account or a treasury bill.
Accounts receivable is money people are supposed to pay you, but that you have not actually received yet (hence the “receivables”).
Usually, this money is sales on credit, often from business to business (or “B2B”) sales, where your business has invoiced a customer but not received payment yet.
Inventory includes the value of all of the finished goods and ready materials that your business has on hand but hasn’t sold yet.
Current assets are those that can be converted to cash within one year or less. Cash, accounts receivable, and inventory are all current assets, and these amounts accumulated are sometimes referenced on a balance sheet as “total current assets.”
Long-term assets are also referred to as “fixed assets” and include things that will have a long-standing value, such as land or equipment. Long-term assets typically cannot be converted to cash quickly.
Accumulated depreciation reduces the value of assets over time. For example, if a business purchases a car, the car will lose value as time goes on.
Total long-term assets:
This term total long-term assets is sometimes used to describe long-term assets plus depreciation on a balance sheet.
Like assets, liabilities are ordered by how quickly a business needs to pay them off. Current liabilities are typically due within one year. Long-term liabilities are due at any point after one year.
Accounts payable is the money that your business owes, the other side of the coin to “accounts receivable.” Your accounts payable number is comprised of the regular bills that your business is expected to pay.
Pay attention to whether this number is exceedingly high, especially if your business doesn’t have enough to cover it.
Sales taxes payable:
This only applies to businesses that don’t pay sales tax right away, for example, a business that pays its sales tax each quarter. That might not be your business, so if it doesn’t apply, skip it.
This is debt that you have to pay back within a year, usually any short-term loans. This can also be referred to on a balance sheet as a line item called current liabilities or short-term loans. Your related interest expenses don’t go here or anywhere on the balance sheet; those should be included in the income statement.
Total current liabilities:
The above numbers added together are considered the current liabilities of a business, meaning that the business is responsible for paying them within one year.
These are the financial obligations that it takes more than a year to pay back. This is often a hefty number, and it doesn’t include interest. For example, this number reflects long-term loans on things like buildings or expensive pieces of equipment. It should be decreasing over time as the business makes payments and lowers the principal amount of the loan.
Everything listed above that you have to pay out or back compiled together.
Money paid into the company as investments. This is not to be confused with par value of stock, or market value of stock. This is actual money paid into the company as equity investments by owners.
Earnings (or losses) that have been reinvested into the company, not paid out as dividends to the owners. When retained earnings are negative, the company has accumulated losses. This can also be referred to as “shareholder’s equity.”
This doesn’t apply to all legal structures for a business; if you are a pass-through tax entity, then all profits or losses will be passed on to owners, and your balance sheet should reflect that.
This is an important number—the higher it is, the more profitable your company is. This line item can also be called income or net profit. Earnings are the proverbial “bottom line”: sales less costs of sales and expenses.
Total owner’s equity:
Equity means business ownership, also called capital. Equity can be calculated as the difference between assets and liabilities. This can also be referred to as “shareholder’s equity” or “stockholder’s equity.”
Total liabilities and equity:
This is that final equation I mentioned at the beginning of this post, assets = liabilities + equity.
The importance of a balance sheet in your business plan
Including a balance sheet in your business plan is an essential part of your financials. There are three aspects of business financials that are really indispensable; the income statement, cash flow statement, and the balance sheet.
These statements give anyone looking over the numbers a solid idea of the overall state of the business financially. In the case of the balance sheet in particular, what it’s telling you is whether or not you’re in debt, and how much your assets are worth. This information is critical to managing your business and the creation of a business plan.
Balance sheet examples
Large businesses will have longer and more complex balance sheets for their businesses, sometimes having separate balance sheets for different segments or departments of their business. A small business balance sheet will be more straightforward and have fewer line items.
Here is a balance sheet from Apple, for example. You’ll see that it includes a complex stockholder’s equity section and several specifically itemized types of long-term assets and liabilities.
You’ll also notice that it says “Period Ending” at the top; this indicates that these numbers are reflective of the time up until the date listed at the top of the column. This terminology is used when you are reporting actual values, not creating a financial forecast for the future.
This example is reflective of what a small business balance sheet looks like:
You can see that is called a “projected” balance sheet, which indicates that these numbers are estimates of the future being used for business planning purposes, not a record of actual values. There are also fewer line items and it is simpler overall.
For more on small business financials, check out these resources:
- The Key Elements of the Financial Plan
- How to Do a Sales Forecast
- How to Build a Profit and Loss Statement (Income Statement)
- How to Forecast Cash Flow
- The Difference Between Cash and Profits
- Balance Sheet Template [Free Download]
- Cash Flow Template [Free Download]
- Profit and Loss Template [Free Download]
Do you have more questions about balance sheets? Let us know on Twitter @Bplans!