Reading the Balance Sheet

Now that your using your Profit & Loss to track your income and expenditure it’s important you also take some time to look over the Balance Sheet!

The Balance Sheet lists out all the assets, liabilities and owner’s equity that your business holds showing you how well it is performing financially. Put simply this report tracks what you OWN (Assets) and what you OWE (Liabilities) at a given point in time.

You can also compare the current Balance Sheet to a previous period to see how your business has improved over time. If the value of your assets have increased and your liabilities have decreased this is a good sign your business is heading in the right direction!

The Balance Sheet always works off this Accounting Equation:

Assets = Liabilities + Equity

The equation is really just stating that your assets are either: paid for by a creditor (liability); by the owner (equity); or by a combination of the two. Knowing this equation allows you too easily determine the reliance your business has on debt or equity to fund the assets of the business.

Assets Can be categorised as either Current and Non-Current and are ordered in rank of their liquidity. If an asset can be easily converted into cash within a year, then it is classified as a current asset. So here you would typically see: Bank Accounts, Accounts Receivable, Inventory or Prepayments.

On the other hand, if it cannot be easily converted to cash in a year then it would be considered a non-current asset. Here you would see Tangible items like: Machinery, Plant & Equipment, Motor Vehicles & Property. As well as Intangibleitems like: Goodwill & Intellectual Property.

Some Non-Current Assets are also known as Depreciating Assets as they will typically decline in value over time as they are used. These would include items such as: Computer Equipment, Tools, Furniture & Motor Vehicles.

Your liabilities will also be listed as either current or non-current. Amounts that you owe that will typically be paid within a year will be considered current liabilities. This can include reoccurring debts like: Credit Cards, GST payable, Superannuation payable, Wages payable, Income Tax payable, or Accounts Payable.

Long Term Liabilities that cannot be paid off within 12 months will be considered Non-Current Liabilities. This would include: Finance on a Motor Vehicle, A lease on some Equipment, or a Bank Loan to increase cash flow.

Equity is also known as Owners Equity (or Shareholders Equity) and in small business it is usually made up of two parts investment and earnings. The investment is the amount of money you paid the business in exchange for a level of ownership. Secondly, the amount of earnings your business has generated over time that you have chosen to retain in your business instead of paying them out to yourself.

If you rearrange the accounting equation to show as  *Equity = Assets – Liabilities* so your equity is really just what would be left over in the business if you were to pay off all your Liabilities with your Assets.

These are the main components of the balance sheet that you will encounter when running a small business. If you need further guidance or training on reading your business reports then we can certainly help!

There is a lot of value in reading your reports so make sure you get in contact with us so we can help you to use them to their full potential.

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