What is a balance sheet?
A balance sheet, or B/S for short, is a summary at a given point in time, usually your business’s year end, of what your business owns (in accountantese, its “assets”) and what it owes (its “liabilities”).
Why do I need to know that?
What would happen if all your liabilities suddenly became payable?
For example, if your bank called in your overdraft facility, you had a large VAT bill due, and all your suppliers cut your credit?
If you sold all your business’s computers and furniture, got all your customers to pay you and sold off all your stock, would you have enough to pay all your liabilities off?
If your balance sheet total (that’s the two figures near the bottom that are, or jolly well should be or else your balance sheet is an out-of-balance sheet, the same), is a positive number, the answer is yes.
If your balance sheet total is a negative number, that means your business owes more than it owns, in other words it’s insolvent. Bad news!
But it’s not just overall figures that help on the balance sheet.
For example, how high is the figure for what your customers owe you (that’s your “trade debtors” in accountantese)? Is it steadily getting higher, particularly when you look at it as a percentage of sales? Perhaps you need to tighten your credit terms.
And how much do you owe? Is that money that you’re going to have to pay off in the short term, like a tax bill? Do you have enough money to hand, or do you need to save a bit more?
Your balance sheet can help you find out about that.
OK, I’m with you. What’s on a balance sheet?
Conventionally, assets come before liabilities.
That means the equipment that your business has bought, which is going to be useful for more than about a year. It’s usually the more expensive stuff, like computers, furniture, or a car that belongs to the business.
You wouldn’t normally find small consumable items here, like computer cables, unless you’d bought the cable as a job-lot with the computer. Cables that are bought separately would usually fetch up in Computer Hardware or Other Computer Costs, in the profit and loss account.
Next come “Current Assets”.
These are assets that are more easily convertible into cash than your fixed assets.
Eh what? Stop talking accountantese.
You usually expect that current assets either are cash in the bank, or will fairly quickly become cash in the bank.
For example, stock is a current asset because you’re going to sell it to your customers, and once you’ve sold it, that stock has been converted into cash.
Trade debtors are also a current asset, because your customers should pay you in the near future. And if they don’t, then perhaps you need to tighten your credit terms.
Cash at the bank also comes under the heading of Current Assets.
Below Current Assets come “Current Liabilities”.
This is money that your business owes, which it’s going to have to pay off in less than a year.
It might also include money that you owe to your suppliers. Suppliers include people such as subcontractors. Money that you owe to suppliers is called “trade creditors”.
If your trade creditors figure is high relative to the amount you’re spending, perhaps you’re not paying your suppliers quickly enough and risking them tightening their credit to you, or spoiling your business relationship with them?
If your trade creditors figure is too low, are you being too kind to your suppliers? This will do wonders for your business relationships but it could put a brake on your cash flow.
Then we have “Long-Term Liabilities”.
That’s money that’s due in more than a year, like a longer-term bank loan.
The balance sheet then adds up all the assets and takes off all the liabilities, to give a figure that’s called “Net Assets” (or “Net Liabilities” if it’s a minus). That’s the total amount of what your business owns, or owes.
What about the bottom half of the balance sheet?
That’s the owner’s funds.
So for a limited company, it’s how much has been paid for any ordinary shares, plus the retained profit it’s holding.
And for a sole trader or partnership, it’s the business’s profit, less any money taken out by the business owner (“drawings”), plus any money put in by the business owner or owners (“capital introduced”).
The amount of the owner’s funds will always be equal to the business’s net assets or liabilities. That’s why this is called a “balance sheet”, because the top half always balances with the bottom half.
Do I have to give anyone my balance sheet?
If your business is a sole trade or partnership, the answer is no. HMRC don’t make it compulsory for these businesses to put their balance sheet figures on their tax returns - though you can if you want to.
If you’re taking out a loan, though, your bank manager might ask to see full accounts including a balance sheet.
But if your business is a limited company, the balance sheet is part of the accounts that you have to file at Companies House, which will be on the public record.
That means anyone can pay a few quid and see your balance sheet - so you better make sure it’s better quality than the B/S produced by a male bovine...
Disclaimer: This article is for general guidance only and is no substitute for advice provided by your own accountant.
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