Business is all about balance. If there’s a mismatch between assets and liabilities or spending and revenue, you’ve got a problem — and one that gets worse the longer it lasts.
Balance sheets help you track and manage your company’s finances. As a freelance writer and small business owner, I use a basic to track financial data.
Since it’s just me, my computer, and a cup of coffee here in the office, however, my balance sheet is pretty straightforward. If you run a small business with more than one employee or sell more than one service or product, you’ll benefit from a more in-depth balance sheet.
Table of Contents
- What is a balance sheet?
- Why is a balance sheet important?
- How to Create a Balance Sheet
- How Balance Sheets Work
- Three Components of a Balance Sheet
- Balance Sheet Example
- Balance Sheet Templates
- Balance Sheet Analysis
What is a balance sheet?
A balance sheet is a financial statement that shows a company's assets, liabilities, and shareholder’s equity, or how much shareholders have invested.
How Balance Sheets Work
Balance sheets are all about — you guessed it — balance.
On the left-hand side of the balance sheet are your assets. These assets can include cash on hand, inventory on hand, and any money owed to your business by customers, also called accounts receivable (AR).
On the right-hand side of the balance sheet are your liabilities. They include debts, interest payable on these debts, wages payable to employees, and accounts payable (AP), which are processed invoices you haven’t yet paid.
Line items on each side of your balance sheet are listed in order of liquidity, with the more liquid items (e.g., cash and inventory) listed before accounts that are more illiquid (e.g., devices, property, and equipment).
Here’s an example of what that looks like:
The most important thing about your balance sheet? That it balances.
Here’s a quick example. My company takes out a $10,000 loan to buy new equipment. I record this $10,000 as a debt liability and also record it as an inventory asset. As a result, my sheet is balanced.
While there’s no “right” way to build a balance sheet, many companies use what’s known as the common size balance sheet. This sheet format shows numerical values and percentages for each listed item, making it easier to spot discrepancies and create comparisons.
It’s also worth noting that balance sheets are snapshots of specific periods. For example, a monthly balance sheet includes your liabilities and assets for the past month. A yearly sheet covers everything for the last year.
As a result, balance sheets aren’t predictive on their own. To get a sense of larger trends and potential market shifts, you need to compare multiple sheets.
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Why is a balance sheet important?
A balance sheet is important because it shows business owners and investors what a company owns and what it owes during a specific period. A balance sheet for a typical accounting period (12 months) would reflect the number of assets and liabilities when the period ends. Balance sheets are typically used to track earnings and spending but can also show a business's profitability to those interested in buying shares.
Three Components of a Balance Sheet
A balance sheet has three basic components: assets, liabilities, and shareholders’ equity.
1. Assets
defines an asset as “anything of value that can be converted into cash.” In other words, an asset provides economic value to businesses and organizations. Assets include both current and fixed assets.
- Current assets: Cash and cash equivalents (e.g., short-term government bonds, treasury bills, and money market funds), accounts receivable, and inventory.
- Fixed assets: Property, equipment, long-term investments, and intangible assets (e.g., patents and licenses).
2. Liabilities
Liabilities are the opposite of assets. They are anything that will incur an expense or cost in the future. For example, a debt owed is a liability. Both are included in the liabilities section of the balance sheet.
- Current liabilities: Accounts payable, notes payable due within the year, and current maturities of long-term debt.
- Non-current liabilities: Long-term notes payable, deferred tax liabilities, bonds payable, and long-term debt.
3. Shareholders' Equity
Shareholders' equity, also known as , is the amount of money the owners have invested in the business. It includes:
- Share capital: The amount of money a company receives from its shareholders for business purposes.
- Retained earnings: The amount of a company‘s profits that aren’t distributed to shareholders as dividends — the funds are reinvested in the business instead.
Balance Sheet Equation
The balance sheet equation shows what a company owns (assets), how much it owes (liabilities), and how much stake or shares owners have in the business (shareholder’s equity). You can calculate it using the following accounting formula:
Assets = Liabilities + Shareholders' Equity
As noted above, your balance sheet needs to balance. But what happens when your assets outpace your liability? If you’re selling goods at a profit and increasing your customer base, the value of your assets may be larger than your liabilities.
Balance is achieved by subtracting liabilities from assets and listing them as shareholders’ equity. For example, if my assets total $50,000 and my liabilities are $30,000, shareholders’ equity is $20,000.
If, however, my assets are $30,000 and my liabilities are $50,000, my shareholders’ equity becomes negative $30,000 to balance out the equation.
How to Create a Balance Sheet
- Determine the period you're reporting on.
- Identify your assets as of your reporting date.
- Identify your liabilities as of your reporting date.
- Calculate shareholders' equity.
- Compare total assets against liability and equity.
1. Determine the period you're reporting on.
The first step is to choose the reporting date, or when you’re compiling the report, and a reporting period.
For example, if your reporting period is Q1 (January 1 - March 31), your reporting date may be April 1 of the same year. Reports are usually created on an ongoing basis, usually quarterly or monthly.
2. Identify your assets as of your reporting date.
Organize your assets into two categories — current and fixed — and represent each asset as a line item within the appropriate category. Then, subtotal each category and add them together.
3. Identify your liabilities as of your reporting date.
These will also be represented as individual line items within current and noncurrent categories. Then, you'll subtotal and total these the same way you did with your assets.
4. Calculate shareholders' equity.
You'll then want to incorporate the share capital you receive from investors as well as retained earnings. You may need to consider if your situation requires you to consider any of the following factors:
- Common stock
- Preferred stock
- Treasury stock
5. Compare total assets against liability and equity.
On the balance sheet, assets equal liabilities plus shareholders' equity. If assets outpace liabilities, shareholders’ equity is positive. If liabilities outpace assets, shareholders’ equity is negative.
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Balance Sheet Example
Below is an example of a balance sheet. As you can see, the sheet itself isn’t complicated. Each asset or liability type has its own line, along with a space for subtotals and totals.
Balance Sheet Templates
While the numbers differ, balance sheet formats are fairly consistent. So why reinvent the wheel? When I started my business, I didn’t build a balance sheet from scratch — I used a free template. I’ve collected a few you can use to get started.
1.
You’re reading the 探花精选 blog, so it should be no surprise I’ve put this at the top of my list.
It should also be no surprise that it’s a great template.
It’s free, and it can be used in both Excel and Google Sheets. It’s simple, straightforward, and clear, making it easy to quickly record your assets, equity, and liabilities for comparison.
What I like: It’s completely customizable. Add your business’s branding, fonts, colors, and other key elements to make this balance sheet your own.
2.
Toggl’s sheet uses boxes rather than lines to separate your assets and liability and highlights key areas to improve readability. All in all, it’s a great starting point.
What I like: Toggl’s balance sheet template gives an overview of your balances in a single view. I also like that it has pre-set items for current assets, fixed assets, current liabilities, and long-term liabilities, meaning you don’t have to add them yourself.
3.
The QuickBooks balance sheet is a bit more complicated, but that’s not necessarily a bad thing. More subsections provide a more granular look at how your assets and liabilities compare, and what this means for your business.
What I like: QuickBooks’ balance sheet templates allow for all of the customizations you need to make to tailor it to your own business. It also comes with “Notes on Preparation” tips to help you work through the specific template, and hovering over specific column items brings up instructions to ensure you input the right data.
4.
Let’s be honest: The other templates on my list offer a little more visual interest than the Corporate Finance offering. Where it stands out, however, is its year-over-year comparison, which helps you get a sense of where your business is headed.
What I like: This balance sheet template from Corporate Finance comes with preset items to fill out for your business and an example balance sheet that you can use as a reference when filling one out for your own business.
5.
Not surprisingly, Microsoft makes a great Excel spreadsheet. This balance sheet is quick, easy to use, and fully customizable.
What I like: Microsoft’s balance sheet divides your sheet into three key tabs: summary, assets, and liabilities. This helps you keep calculations separate to eliminate confusion and to give you an overview of balances in the summary tab.
6.
The Score.org balance sheet looks a little more complex at first glance thanks to the large text box on the right-hand side. But don’t let that dissuade you — it’s actually a great option if you haven’t done many balance sheets since it includes instructions and examples to streamline the balancing process.
What I like: This balance sheet includes notes for preparation to guide you through the setup and calculation process. It also includes an additional category named “Other Assets,” where you can take into account your business’s intangible assets and deposits.
Balance Sheet Analysis
Now, it’s time to analyze your balance sheet.
A balance sheet helps you determine your business’ liquidity, leverage, and rates of return. When your current assets are greater than your liabilities, your business is likely in a good financial position and can cover short-term financial obligations.
Comparing multiple balance sheets helps you better understand short- and long-term trends. For example, if you compare a current balance sheet with one from six months ago and you discover a significant decrease in your company’s available cash, you may be experiencing financial problems.
Other metrics to look at include:
- Leverage ratio. A leverage ratio shows how much of your capital comes from debt. One common type of leverage ratio is the debt-to-equity ratio, which divides liabilities by shareholder's equity to show the value of a business compared to its debt.
- . Return on equity tells you the percentage of returns from equity investments. To get an ROE percentage, you divide net income by the total shareholders’ equity.
- . Return on assets shows you the value or profitability of a business in relation to its assets. Divide net income by average assets to find your ROA.
A Balance Sheet Can Help Your Business Grow
Balance sheets provide an overview of a business's financial standing.
Comparing multiple balance sheets can help identify trends in assets and liabilities that inform future decision-making. If your assets consistently outpace your liabilities, keep doing what you’re doing. If your liabilities are on the rise but assets can’t keep pace, focus on finding out why.
Bottom line? Balance sheets aren’t the most exciting part of owning a business — but as I’ve learned after a decade of being in business for myself, they’re an important part of long-term success.
Editor's note: This post was originally published in January 2019 and has been updated for comprehensiveness.
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- Pitch to investors.
- Secure funding.
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You're all set!
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