The three key sections of a balance sheet are:

1. Assets
2. Liabilities
3. Owner’s equity

Assets and liabilities are sub-divided into current (short-term) and non-current (long-term) and may have several components within each sub-division such as cash at bank, inventory, property, accounts payable, or business bank loans. The individual items will differ depending on the nature of the business and industry.

It is called a balance sheet because assets minus liabilities (net assets) must equal the owner’s equity (they must balance).

A balance sheet is based on the formula:

For example:

Assets

Assets are the resources that a business uses to operate its business such as cash, inventories, land and buildings, and equipment. Essentially, assets are any items of value owned or controlled by the business that contributes towards generating revenue. Assets are categorised as either current or non-current assets.

• Current assets:
  are items of value that are expected to be consumed or converted into cash within the next 12 months. Examples include cash, inventory that is turning over regularly and accounts receivable.
• Non-current assets:
  are not expected to be consumed or converted into cash within the next 12 months. Examples include assets that the business would generally keep for more than one year such as plant and equipment, cars and buildings.

Liabilities

Liabilities are the financial obligations or debts of the business and include claims that creditors have on the business’s resources such as accounts payable, bank overdrafts, provision for employees’ annual leave and long service leave, tax liabilities, and loans payable. Essentially, liabilities are amounts owed by the business to external parties. Liabilities are categorised as either current or non-current liabilities.

• Current liabilities:
  are expected to be paid within the next 12 months and include creditors, (accounts payable), inventory purchases, overdraft, short-term loans and credit card debts.
• Non-current liabilities:
  are not expected to be settled within the next 12 months and include mortgages on buildings and equipment, and long term loans.

Owner’s equity

Owners equity is the residual interest in the assets of a business after liabilities are deducted. It is the net worth of a business and equals the difference between assets and liabilities. Equity represents the amount belonging to the owner once all financial obligations have been met.

Equity includes the initial and ongoing capital investments made by the owners, retained earnings (or accumulated losses), and reserves. Capital is any cash or assets the owner has contributed to the business. Retained earnings are any profits that are reinvested in the business. Reserves are profits set aside for particular purposes such as asset replacement, or major building maintenance.

Owner’s equity is also referred to as proprietorship, member’s funds, capital, or shareholders’ equity.

Back to top

What's next...

• Refer to the example balance sheet
• Analyse your accounts using the debt to equity ratio
• Analyse your accounts using the liquidity ratios

Back to top