The Balance Sheet helps us to assess the risk of the business. By looking at it you will be able to answer to questions, such as: What is the leverage? Is the company liquid enough?
Remember, leverage means the proportion between equity and debt, while liquidity is the capacity of the business to repay for its short-term obligations, to run the operations.
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The Balance Sheet is comprised of two main sections:
- Liability and Equity
The Assets sections i comprised of:
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NON - CURRENT ASSETS
- Plant, Furniture, Equipment… and so on.
Liabilities are comprised of:
- Accounts Payable
- Accrued Expenses
- Short-term loans
NON CURRENT LIABILITIES
- Long-term loan
Equity is comprised of:
- Owner's Equity
- Retained Earnings
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we saw in the accounting equation video, that the balance sheet, is divided in two main
the asset section, and the liability and equity section.
more in detail.
the asset section is comprised of current assets, and non current assets.
main current assets are.
cash, accounts receivable, inventories.
the current assets, are called such, because they are usually on the balance sheet for
one year, or less.
the current assets are usually listed, on the balance sheet, according to their degree
therefore, cash is the most liquid, while prepaid expenses, the least liquid.cash, is
available at any time.
accounts receivable, sum of money to be received from customers.
inventory, a list of goods to be sold.
prepaid expenses, sum paid in advance.
the non-current assets are also called, long term assets.
indeed, those are assets that will stay on the balance sheet for years.
such as plants, equipment, furniture, and so on.
on the other side of the balance sheet, we have, the liabilities and equity.
liabilities, are comprised of current liability and non current liability.
current liabiltiies, stay on the balance sheet, for less than a year.
non current, for more than a year.
Let's see the main current liabilities.
accounts payable, sum of money not yet paid to suppliers, that will be washed away, once
accrued expenses, sum of money to be paid in the future, such as, payrolls, or tax the
main non current liability is, long term debt.
such as loans contracted with the bank.
then, the equity.
in this sub section are reported items, such as, owner's equity, retained profits and other
kind of stocks, issued by the organization.
lets see now few examples.
jim sold $100 worth of clothes.
his customer, Janet, paid with credit card.
therefore, this will generate an account receivable, for $100, on Jim's balance sheet.
jim, has to pay for utilities.
since it is the first time he set up the account.
he has to pay for $1,000 in advance.
this advanced payment, will be shown as, prepaid expense.
jim, this month, did not sell part of the clothes he bought in the previous month.
the unsold clothes, will become part of his inventories.
then, Jim had to pay $50,000 cash, to renovate the store.
this $50,000 will show on his balance sheet, as building improvement, therefore, a long
term fixed asset.
jim, buys clothes for $1,000, with credit card.
the payment will be processed in 30 days.
this transaction, will generate an account payable, on jim's balance sheet.
Jim, goes to the bank, to ask for a long term loan.
the bank gives Jim, $50,000. this will generate a bank loan.
showed under long term liability, on Jim's balance sheet.
after a while.
Jim accepts a new partner, Jasmine.
Jasmine puts $50,000 and becomes equity partner.
this transaction, will show on the balance sheet, as owner's equity.
in conclusion, the balance sheet, is one of the main financial statements.
it is like an instant picture.
and it helps us to assess how risky a business is.
in fact, when a company is too indebted.
you can see it from the balance sheet.
if liabilities are too much in comparison to equity, this can be very dangerous for
the business.to summarize.
the balance sheet is comprised of two main sections.
it is an instant of the business.
and, allows us to see how risky a business is.
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