How to Use a Balance Sheet
Interpreting financial data may be intimidating for some. But with a little knowledge, understating financial reports can be quite simple. Balance sheets, for example, encompass three major parts. An understanding of those parts can provide lots of data for anyone interested in the organization. Here’s how to use balance sheets.
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Instructions
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Determine liquidity. Balance sheets are composed of assets, liabilities and owner’s equity. Assets should always equal liabilities plus owner’s equity. Assets may be broken down further to current assets and non current assets. Current assets are assets that may be broken into case in less than a year. This is important to determine if businesses will have access to cash when needed.
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Evaluate debt. Liabilities include accounts payable. This determines amounts owned to various vendors by an organization. Just as assets include current assets, liabilities include current liabilities. These are liabilities that must be paid within a year. This determines debt that should be paid within a year. It’s an excellent tool to separate long-term debt and make strategic plans for the organization (see Resources below).
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Report assets and liabilities to shareholders. Balance sheets provide a snapshot of total assets and liabilities owned by a company. Shareholders should make note of particular assets like accounts receivable. This is debt that is owned to the organization by other companies or individuals. Some balance sheets may have an inflated number because they report unrealistic collection numbers for accounts receivable. In most organizations, all accounts receivable are not completely collected.
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Communicate owner’s equity. Just as homeowners want to know how much equity is invested in their home, business owner’s want to know how much equity is invested in their business. The balance sheet offers a quick snapshot of total owner equity. A detailed review of the owner equity section of a balance sheet will reveal how much each owner has invested.
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Create financial reports. Balance sheets are part of the standard set of financial reports that are used by an organization. If a company cannot produce a basic balance sheet, financial issues may exist within the organization.
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Determine a good buy. Before making a decision to invest in a company, it is always a good idea to review all financial records. The balance sheet is a quick snapshot to determine the soundness of the company. If the balance sheets look good, a further detailed review can proceed.
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