The Balance Sheet
The balance sheet is simply a picture of a company's assets and liabilities at a specific point in time. It is similar to a net worth statement for an individual, except that the "net worth" is referred to as "shareholders' equity."

For a business, the following formula applies:

Shareholders\' Equity = Total Assets - Total Liabilities

Assets fall into three categories:

  • Current - includes cash, marketable securities, accounts receivable and inventories

  • Fixed - refers to items owned and used by the company, such as real estate, equipment and furniture. The value used on the balance sheet is the original cost minus depreciation taken in previous years.

  • Intangibles- these are the non-physical components of the business's value, such as patents, copyrights, trademarks, franchises and goodwill.

Liabilities are defined as either current or long term.

  • Current liabilities - amounts that must be paid within a year and include:
    • Accounts payable
    • Notes payable
    • Taxes payable
    • Interest payable
    • Dividends payable

  • Long-term liabilities - amounts that become payable more than one year into the future and generally includebonds and long-term bank loans.

The key calculation derived from a company's balance sheet is working capital, which is obtained by subtracting current liabilities from current assets:

Working Capital = Current Assets - Current Liabilities

Look Out!
Working capital is not affected when a company buys securities with cash, since current assets include both cash and securities. A typical exam question will offer that scenario and then ask which balance sheet items are affected. Working capital will be an incorrect answer.

Shareholders' Equity
includes three components:

  • Common and preferred stock - on the balance sheet, only the par value of both classes of stock is used, not the market value. (Par value is a dollar amount assigned to a security when first issued. For stocks, par value usually is a small amount that bears no relationship to its market price.) This par value is multiplied by the number of outstanding shares.

  • Capital surplus- this refers to the premium that shareholders pay in excess of the par value, usually when stock is issued by a company. Also called paid-in surplus.

  • Retained earnings - these are the net profits the company retains for future use rather than pay out as dividends.

Exam Tips and Tricks
You can expect only one or two questions on financial
statements, such as:

XYZ Corporation buys furniture for a new addition onto its headquarters. Which of these items on its balance sheet will be affected?

Current Assets

  • Current Liabilities
  • Net Worth
  • Working Capital
    1. I and III
    2. I and IV
    3. II and III
    4. All of the above

    The correct answer is "b", since cash (a current asset) will decrease, this also decreases working capital. Furthermore, furniture is a fixed asset, not a current asset; and net worth is only affected by profit, loss or dividend payout.

    Time Value of Money

    Related Articles
    1. Investing

      Reading The Balance Sheet

      Learn about the components of the statement of financial position and how they relate to each other.
    2. Investing

      5 Tips For Reading A Balance Sheet

      If you know how to read it, the balance sheet provides valuable information on a potential investment.
    3. Investing

      Current Liabilities

      Current Liabilities are company debts due within one year or one operating cycle, whichever is greater. An operating cycle is the time it takes a company to purchase inventory and convert it ...
    4. Investing

      Understanding Total Liabilities

      Total liabilities are the combined debts an individual or company owes.
    5. Investing

      How To Analyze A Company's Financial Position

      Find out how to calculate important ratios and compare them to market value.
    6. Investing

      How Dividends Affect Stockholders' Equity

      Find out how dividends affect a company's stockholders' equity and how the accounting process changes based on the type of dividend issued.
    7. Personal Finance

      How To Improve Net Worth By Decreasing Liabilities

      Here's an analysis of how to adjust liabilities and assets to improve net worth.
    8. Small Business

      What's a Liability?

      A liability is a debt. It is an obligation that arises during the course of business and represents a third-party claim on the company's assets. A liability can arise in a number of different ...
    9. Investing

      Paid-Up Capital

      Paid-Up Capital is listed in the equity section of the balance sheet. It represents the amount of money shareholders have paid into the company by purchasing shares. It’s essentially two accounts, ...
    Frequently Asked Questions
    1. Depreciation Can Shield Taxes, Bolster Cash Flow

      Depreciation can be used as a tax-deductible expense to reduce tax costs, bolstering cash flow
    2. What schools did Warren Buffett attend on his way to getting his science and economics degrees?

      Learn how Warren Buffett became so successful through his attendance at multiple prestigious schools and his real-world experiences.
    3. How many attempts at each CFA exam is a candidate permitted?

      The CFA Institute allows an individual an unlimited amount of attempts at each examination.Although you can attempt the examination ...
    4. What's the average salary of a market research analyst?

      Learn about average stock market analyst salaries in the U.S. and different factors that affect salaries and overall levels ...
    Trading Center