Glasgow Accountants, The Kelvin Partnership, provide a quick overview of balance sheets.
A balance sheet is a vital way to evaluate a business’ financial health. Balance sheets can be calculated every month, quarter or every 6 months to offer insight of a company’s net worth.
The Kelvin Partnership would like to offer advice on how to calculate an annual balance sheet for a business. Creating a balance sheet will help you evaluate the equilibrium between your company’s assets against liabilities to determine the overall financial strength and value of your business.
1. Understand the Basic Equation
Think of this as a simplified representation of what a balance sheet calculates: the total sum of your company’s assets equals the value of the company’s liabilities and owner’s equity.
Assets = Liabilities + Owner’s Equity
As with any maths equation, you can amend the equation to isolate one category. Many business owners and investors use the following equation to calculate the value of the company’s equity:
Owner’s Equity = Assets – Liabilities
2. Calculate Assets
Assets, money, investments and products your business owns can be converted into cash. These assets are what keep companies in the financial positive. A thriving company has assets that are greater than the sum of the business’ liabilities. This creates value in the company’s equity or stock and offers opportunities for financing.
It’s vital that you list all assets by their liquidity – the facility by which they can be turned into cash – starting with cash itself and then going on to move into long-term investments towards the end of the list. For an annual balance sheet, you can separate your list between “current assets”- anything that can be converted into cash within a year or less and “fixed assets” which are long-term possessions that can be sold or retain value down the line, minus depreciation.
Current assets can include:
Cash: all money in checking or savings accounts
Securities: investments, stocks, bonds
Accounts receivable: money owed to the business by a client or customer
Inventory: any products or materials that have already been created or acquired for the purpose of sale
Pre-paid insurance: any payments made in advance for business insurance coverage or services
Fixed assets can include:
Supplies: important objects used for business operations
Property: any building or land owned by the business
Intangible assets: intellectual property such as patents, copyrights, trademarks etc
3. Determine Liabilities
Liabilities are the negative part of the equation. These include operational costs, debt, and material expenses. The lower your liabilities, the greater the value of your company and related equity can be. Current liabilities include cash spent as well as any debts that must be paid out within one year while fixed liabilities refer to bills due any time after one year.
Current liabilities can include:
Accounts payable: money owed to a business by suppliers or partners
Business credit cards
Operating line of credit: any money owed to a bank that has extended the business an operating line of credit
Wages and payroll
Fixed liabilities can include:
Pension benefit obligations
4. Equity Valuation
Owners equity = assets – liabilities
The value of your assets minus your liabilities results in an estimation of the value of your company’s capital. If this equation results in a negative net worth, this is concerning for a small business and will make it difficult to secure financing which can be troubling for a company that is in a position of expenses eclipsing profits.
If a property has positive equity, this means that business owners have the option of acquiring capital by selling part of their business through equity, stocks and/or dividends.
In a sole proprietorship, this is called the “Owner’s Equity”; in a corporation, this is called “Stockholder’s Equity,” and it can include common stock, preferred stock, paid-in capital, retained earnings, etc.
Equity can include:
Opening balance equity: initial investment to the company
Capital stock: common and preferred stock a company issues
Dividends paid: profits paid out to shareholders by a company
Owner’s draw: portion of the revenue used by a company’s owner
Retained earnings: the sum of a company’s consecutive earnings since it began
Having an Income Statement will assist you in filling out this section, since it helps you determine the opening balance equity and the retained earnings.
5. Consider All Applications
A strong balance sheet is a vital financial statement and part of a complete financial report. It can be used to secure financing or act as a snapshot of a company’s financial state but it can also be used to evaluate the worth of your company over time. While accounting software can assist in the generation of balance sheets, working with a qualified accountant ensures that you know your business’ finances are in the right hands.
Comparing your current assets minus your currently liabilities periodically will help you stay informed on your company’s annual financial growth and expenses and offer insight on any room for improvement.
Calulating fixed assets minus fixed liabilities offers a long-term view of the company value over time and your ability to pay back long-term debts or expenses built up over years.
Keep in mind that the expenses of different companies can vary greatly so don’t forget the assets and liabilities that are specific to your industry or area.
Get help with balance sheets & all accounting needs with a Glasgow accountant
For help with balance sheets and all other accounting needs, get in touch with The Kelvin Partnership. Our dedicated team look forward to hearing from you!