The balance sheet in plain English
What a company owns, what it owes, and what's left for shareholders.
A snapshot
A balance sheet is a snapshot of a company's finances on one day. It has three parts. Assets: what the company owns, like cash, buildings, equipment, inventory and money customers owe it. Liabilities: what it owes, like loans, bonds and bills to suppliers. Shareholders' equity: what's left over for owners.
It always balances: assets = liabilities + equity. Think of a house: if your home is worth $400,000 and your mortgage is $300,000, your equity is $100,000.
What to look for
Cash vs debt: lots of cash and little debt gives a company room to survive bad times. Heavy debt is not automatically bad, but it means interest payments must be made even in tough years, and rising rates make new borrowing pricier.
Short-term health: compare current assets (cash and things that turn into cash within a year) with current liabilities (bills due within a year). If short-term bills far exceed short-term resources, the company may struggle to pay them.
Its limits
The balance sheet doesn't show whether a company is profitable; that's the income statement, which covers revenue and profit. It also tends to undervalue things like brands and know-how. Use it alongside profit and cash flow, not alone.
A company has $500 million in assets: $100 million cash, $150 million inventory and customer bills, $250 million buildings and equipment.
It owes $300 million: $80 million in bills due this year and a $220 million long-term loan. Equity = $500 million - $300 million = $200 million.
Current assets ($100m cash + $150m inventory and customer bills = $250m) comfortably exceed current liabilities ($80m), so short-term bills look manageable.
Key terms
- Assets
- Everything a company owns that has value.
- Liabilities
- Everything a company owes to others.
- Shareholders' equity
- Assets minus liabilities: the owners' share of the company on paper.
- Balance sheet
- A snapshot of what a company owns and owes on a given date.
Assets minus liabilities equals equity, and a strong balance sheet helps a company survive hard times.