To assess the financial position of a business at a specific point in time, refer to the balance sheet, also known as the statement of financial position. Together with the profit and loss statement, and potentially other reports such as the statement of cash flows, these financial statements provide a comprehensive overview of both the financial position and performance of a business.
Structure of the Balance Sheet
The balance sheet consists of three key sections: assets, liabilities, and equity.
Assets
Assets represent resources owned by a business that have current or future economic value and can be measured in monetary terms. They are typically classified as follows:
- Current assets – Expected to be realised within one year, including bank accounts, trade receivables (accounts receivable), stock, and prepayments.
- Non-current assets – Held for long-term use, including property, plant, and equipment (PPE), vehicles, investments, and intangible assets such as intellectual property.
Liabilities
Liabilities represent obligations owed by the business to external parties, such as suppliers, employees, and lenders. These may include amounts payable for goods and services already received, as well as funds received in advance for services yet to be delivered. Liabilities are generally classified as:
- Current liabilities – Due for payment within one year, including trade payables (accounts payable), payroll obligations (wages, PAYG withholding, superannuation contributions), and short-term loans.
- Non-current liabilities – Obligations payable beyond one year, such as long-term loans, lease liabilities, and deferred tax liabilities.
Equity
Equity represents the residual interest in the assets of the business after deducting liabilities. It comprises:
- Owner’s capital contributions
- Drawings
- Retained earnings
- Issued share capital (if applicable)
Transactions affecting the profit and loss account also impact the balance sheet. For example, recognising revenue from a sale increases both accounts receivable and equity.
The Balance Sheet Equation
The balance sheet must always balance, adhering to the fundamental accounting equation:
Assets = Liabilities + Equity
For example, if a business purchases a vehicle for $50,000, paying a $10,000 deposit and financing the remaining $40,000 through a loan:
- Fixed assets increase by $50,000
- Bank balance decreases by $10,000
- Liabilities increase by $40,000
This ensures the balance sheet remains in equilibrium.
It is important to note that the equity total on the balance sheet does not necessarily reflect the market value of the business. Assets are recorded at their historical cost, which may differ significantly from their current market value. Some assets may appreciate, while others may depreciate over time. Business valuation considers not only balance sheet figures but also various other financial and non-financial factors.
For a complete understanding of your business’s financial position and performance, contact us today. We can provide expert insight tailored to your specific business needs.
