What Is the Accounting Balance Sheet?
A balance sheet, or an accounting balance sheet, is one of the key types of financial statements used by business owners and their accountants to track financial activity and financial health. Along with other major financial statements such as the Income Statement, The Cash Flow Statement, and The Statement of Shareholder's Equity, The Balance Sheet is designed to give an idea of a company’s financial position at a specific point in time.
The balance sheet is also known as the statement of financial position.
What Does a Balance Sheet Include?
As a form of financial reporting, a company balance sheet should show three areas of a company’s financial position:
- Liabilities, and
- Owner’s or stockholders’ equity.
A statement of financial position should feature a comprehensive inventory of what a company owns or its total assets. This section of the balance sheet can include
- temporary investments,
- long-term investments,
- accounts receivable,
- product inventory,
- supplies or materials,
- prepaid insurance policies,
- land improvements,
- equipment, and
- company goodwill.
Remember to list both short-term assets and fixed assets here. Short-term assets are assets that are expected to be sold, used up, or converted to cash within the current fiscal year.
Fixed assets are long-term assets that are purchased with long-term use in mind and are therefore unlikely to be converted to cash in the near future.
The assets category of the balance sheet should also include what are called contra-assets, or Asset Accounts that have credit balances.
Generally, a contra asset account is an account where balance is being measured in a credit balance. It has its name from having a credit balance in contrary to the normal debit balance. Among Contra Assets, we can find Accumulated Depreciation or Allowance for Doubtful Accounts.
Learn more about Contra Assets from this guide by Accounting Coach.
The most common example is accumulated depreciation on certain fixed assets (such as a building or a piece of equipment) that the business purchased/acquired during a different reporting period.
Note that the assets listed on your balance sheet can be classified in several ways. Categories of Assets include:
- Current Assets (cash, accounts receivable and inventory);
- Property, Plant, and Equipment;
- Intangible Assets (trade secrets, industry know-how, patents or copyrights); and
- Other Assets.
Assets can be anything that company owns that has a yielding potential. Generally Accepted Accounting Principles (GAAP) often requires that assets be recorded based on certain criteria. Assets are generally defined as items that meet all the following criteria:
- Are controlled by the corporation;
- Are the result of a past transaction;
- Will result in a future benefit to the corporation.
However, the company's and GAAP's definition of assets may differ in details, as GAAP requires assets to be valued using a specific method. Additionally, accounting is often held in a conservative manner and as a result, items are often required to be expensed if certain criteria cannot be met that prove there will likely be a future benefit to the corporation.
Opposite of assets - it is how much company owes and has to settle in the future.
Think of company liabilities as a claim against assets, or as what enabled a company to own its assets in the first place. This category can include accounts payable, salaries/wages payable, interest owed, income taxes, warranty liability, lawsuits payable, unearned revenues, bonds payable, loans and more. Contra balances exist here too, such as debt issue costs.
Unlike with assets, there are only two technical classifications for liabilities:
- Current liabilities (also called short-term liabilities, ones that company plans to settle down within one year - it includes items like Accounts Payable, Demand Loans, and current portion of Long-Term liabilities);
- Long-term liabilities (often include ingoing commitments such as loans, mortgages, finance leases, debentures and other possible financial agreements).
A mortgage or some other type of loan is a long-term liability or long-term debt. The principal paid on the loan, meanwhile, would be classified as a current liability. Other current or short-term liabilities are those where payment of the debt is due within one year.
In other words, liabilities are defined as items that:
- Are a present obligation of the corporation;
- Are the result of a past transaction;
- Will result in a future cost to the corporation.
Owner’s Equity/Stockholders’ Equity
As with liabilities, owner’s equity is considered a source of assets for a company. In a sole proprietorship, this section would highlight owner’s equity; in a corporation with multiple stockholders, it would be shareholders’ equity. This section can include details about stock (common stock, preferred stock), retained earnings, paid-in-capital, accumulated other comprehensive income, company net worth, and more.
It consists of two main items:
- Equity instruments (includes capital stock, options and warrants);
- Retained Earnings. It is the amount of net income left for a company after it has paid out dividends. These earnings can be both positive (also called profits) or negative (also known as losses).
In totality, a balance sheet is important for offering a snapshot of a company’s current financial health and its balance between Assets, Liabilities, and Equity.
A balance sheet can be also called Statement of Financial Position, or Statement of Financial Condition. It is a summary of the financial balances, doesn't matter who is the owner, proprietor, founder or the company's form, including organizations such as government or not-for-profit entity.
Its Assets, Liabilities and Ownership's Equity are often publicly listed, usually at the end of the fiscal year. It is a snapshot of a company's financial condition.
Of the five financial statements, the balance sheet is the only statement which applies to a single point in time, in contrary to other statements that focus on a period of time (for instance The Cash Flow Statement takes into consideration outflow and inflow of cash for as its evaluation data).
A standard company balance sheet has two sides:
- assets on the left, and
- financing on the right. The right part itself has two sub-parts;
- liabilities, and
- ownership equity.
The main categories of assets are usually listed first, and typically in the order of liquidity. Assets are followed by the liabilities. The difference between the assets and the liabilities is known as equity, but it has more names. Net assets, the net worth, capital of the company.
Result is a vital tool that investors and other parties can use to understand how a company operates, what its current financial position is, and whether it is financially stable.