Balance Sheet
Cook the Books
A balance sheet is a snapshot of financial health, showing what a company or person owns and owes at a specific point in time.
Balance sheets always follow the same formula:
Assets = Liabilities + Equity
An asset can be anything that provides or will provide a benefit. If you’re a cafe, assets would include the cash in your register plus the supplies and machines you have on hand for whipping up americanos.
A liability is an obligation that will require a company (or you) to spend resources in the future. Following the same example, that cafe’s liabilities could be the money borrowed to set up shop plus the wages owed to baristas.
Equity means ownership, and it’s what’s left of the assets after subtracting the liabilities. This is what a business or person owns free and clear.
A company’s balance sheet might show some of these items:
| Assets | Liabilities | Equity |
| Cash and investments
Accounts receivable Inventory Machinery Land |
Debt
Accounts payable Salaries payable Taxes payable Unearned revenue |
Paid-in capital (i.e., what owners have paid into the company)
Retained earnings (i.e., accumulated profits) |
“The two most important things in any company do not appear on its balance sheet: its reputation and its people.“
—Henry Ford
Investors may use a company’s balance sheet to:
- Figure out what the company’s shares are worth
- Evaluate whether the company is in good financial health
Lenders may use a company’s balance sheet to:
- Decide whether they should loan new money to the company
- Work out whether the company is likely to repay the money it’s already borrowed
Company insiders may use the balance sheet to:
- Make sure it has enough cash handy to meet upcoming expenses
- See how its assets and liabilities have changed since the last year
And you can use your own balance sheet to:
- Compare your debt to your assets to determine your net worth
- Identify the makeup of your assets—such as how much of your wealth comes from your house or from your 401(k) balance
- Make sure you have the resources available to meet your near-term obligations
As you read a balance sheet, it’s good to keep in mind this general accounting rule: A balance sheet should always balance. Just like two plus two always equals four, liabilities plus equity should always equal assets.
An unbalanced balance sheet might indicate either an error in the math, misallocated assets and liabilities, or the need to call a financial expert.
A balance sheet shows the assets, liabilities, and equity of a person or company at a specific moment in time. Balance sheets are one part of the toolbox for analyzing a business or individual’s financial health.
- Balance sheets can’t always capture the entire picture. For example, companies can’t count having an amazing brand or terrific employees as assets even though these can provide substantial benefits.
- The phrase “cook the books” doesn’t come from any real-world case of culinary accounting fraud. Rather, it comes from one meaning of the word “cook” as to alter or modify something.
- A balance sheet shows a company or person’s assets and liabilities at a point in time.
- Investors, lenders, and company insiders can use balance sheets to evaluate a company’s financial health and for other purposes.
- You can create a balance sheet for yourself to determine your net worth or assess your overall financial stability.
- On any balance sheet, the sum of liabilities and equity should always equal assets.
