What is Balance Sheet? and What are the elements of the Balance Sheet?

Balance sheet

Every business requires adequate resources in order to function. Resources are buildings, computers, software, inventory, cash, and human intelligence and etc. All these resources together are called the assets of the company. But how will assets come to the company? Assets do not automatically come to the company. Initially, the people who started the company invest their own money(Owner's Fund) and may borrow money to provide resources. So we need providers for resources. 

A balance sheet is a statement that lists a company's resources known as assets as well as the providers of resources known as liabilities. It is a financial statement that shows a company's assets and liabilities at the end of the year. The assets and liabilities shown in balance are cumulative. That is, if a company buys a building, it will be shown on the balance sheet as an asset even after 25years years also, unless the company sells it to someone else. The same case with liabilities also. If the company obtains a loan from a bank, the loan will be recorded as a liability until the loan is paid off. 

Equation of Balance Sheet: 

The balance sheet equation states that the sum of  liabilities and Owners fund is equal to the Assets of the company. It is the fundamental tenet of a balance sheet - assets and liabilities must always balance.

 Assets = Liabilities + Owners fund 

The terms Assets, Liabilities and Owners fund are collectively called as Elements of Balance Sheet. Now let us try to understand elements in detail.

Elements of Balance Sheet

Assets: 

A resource which has an economic value and owned by the organization is called as Asset. Assets can be sold for cash when the organization needs. However, unless in extreme circumstances, no organization wants to sell its assets. Because most assets have more economic value when held for a long period of time.

Types of Assets:

Assets are classified into two types: non-current assets and current assets. Non-current assets can be called as fixed assets.

Non-current Assets:

Non-current assets can not be easily converted into cash. These assets are used by the company or  organization in their business for many years in order to achieve their financial goals.

Examples : Land, Buildings, plant and machinery, patent, trademarks, goodwill

A non-current asset can be Tangible or Intangible. Tangible assets have physical appearance as well as a definite monetary value.

Assets like land, buildings, plant are considered as non-current assets. On the other side Intangible assets don't have a physical existence, they are intellectual properties of organization. Assets like patents, trademarks, goodwill are considered as Intangible assets. 

Current Assets:

As the name implies, current assets are used to cover day-to-day business (current) expenses. Current assets are easily convertible to cash. Current assets have a short life and are likely to stay with the organization for a year or less.

Examples of Current Assets

Cash and equivalents
Short-term investments
Accounts receivable
Inventory
Prepaid expenses.

Current assets are classified into two types: monetary assets and non-monetary assets. Assets which are liquid nature and have fixed monetary value called as monetary assets. Cash, Cash equivalents and accounts receivable are monetary assets. Non-monetary assets on the other hand don't have fixed monetary value and can't be easily liquidated.  

Liabilities:

In simple terms, liability is a past debt owed by the company to a person or organization. Suppose, You and your friend went to shopping. A watch in a shop has attracted you so much, but you don't have sufficient money. Then you have taken some money from your friend, which you must repay later. The money you have taken from your friend is a liability for you. We mentioned liability as resource providers at the beginning of the article. Watch is a resource for you, funded by your friend's money, which is a liability.  Companies, like individuals, borrow money in various ways to acquire assets or for business purposes. This becomes a liability for the company. Later, Companies will eventually clear the debt by repaying it or providing services to the creditors.

        Liabilities are of two types - Current liabilities(near-time) and Non-current(long-term) liabilities. Debts that must be repaid after one year are classified as long-term liabilities, while debts that must be repaid within one year are classified as current liabilities.

Examples of Liabilities:

Current liabilities: 

Accounts Payable, Bank account overdrafts, Bank loans, Dividends payable, Income Taxes..etc.

Non-current liabilities: 

Debentures, Long-term loans, Bonds payable..etc.

Owners Fund:

The term "owner's fund" refers to funds invested initially by the owners. As the business grows, the profits will be added to the owners' fund. Owners fund is also known as Net worth or Equity. According to the Balance sheet equation - 

Assets = Liabilities + Owners fund, then

Owners fund = Assets - Liabilities 

Consider Reading - 

What is P/E ratio(Price to Earning ratio)?

What is EPS(Earning Per Share)?

Market Capitalization

Disclaimer : All the information provided in this article is purely for education purpose only, and it is not an investment advise. Please consult your personal financial adviser before taking any investment decisions.