Balance sheets

Interpreting balance sheet figures

Guide

A balance sheet shows:

  • how solvent the business is
  • how liquid its assets are - how much is in the form of cash or can be easily converted into cash, ie stocks and shares
  • how the business is financed
  • how much capital is being used

A balance sheet is only a snapshot of a business' financial position on one particular day. The individual figures can change dramatically in a short space of time but the total net assets (assets less liabilities) would only change dramatically if the business was making large profits or losses. For example:

  • If you hold large inventories of finished products, a change in market conditions might mean their value is reduced. You may even need to sell at a loss.
  • Customers sometimes have payment problems. If they are unable to pay, you may need to revalue your assets by making allowances for bad debts.

Current liabilities - money you owe

This section might include money owed for goods or services received but not yet paid for.

Debtors - money owed to you

This figure assumes that debtors will pay up on time. Where there are doubts about being paid, a provision can be made to reduce the value of the debts in the business' accounts.

Intangible assets

The value of goodwill, patents and intellectual property can fluctuate with market trends, so the balance sheet value should be updated annually.

Fixed assets

These are shown at their depreciated rates. There are two main approaches to calculating depreciation of an asset:

  • Write off the same charge over the calculated life of the asset. For example, you may decide that a computer bought for £2,000 has a useful life of five years and that you will write off 20 per cent of its value each year.
  • Apply a steeper depreciation rate in the first few years of an asset's value. For example, you may decide to offset 30 per cent of the value of the same computer in the first two years, 20 per cent in the third year and 10 per cent in the final two years.

Read more about the difference between assets and liabilities.

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