Purpose of a Balance SheetA balance sheet is a summarized list of assets and liabilities of an enterprise. A balance sheet is the most fundamental financial statement. Its main purpose is to show the total net worth of a business. It also displays the historical value and the net realizable value particular assets (Berry & Jarvis, 2006, p. 57). The balance sheet is important in the liquidation if a business because such a process involves the valuation of various assets as they are disposed.
Primary Components of a Balance Sheet
A balance sheet is made up of three elements; assets, liabilities and equity. Assets are everything that the company owns which can be assigned a monetary value (Spurga, 2014, ch. 2). Assets are mainly classified as fixed or current depending on the duration the enterprise intends to hold them. The business acquires fixed assets for long term use while current assets are those that are expected to be converted into cash at the end of the trading period (Spurga, 2014, ch. 2).
Primary Users of a Balance Sheet
A balance sheet is prepared as a report for the management of an organization to communicate to the stakeholders about the progress they are making. The most concerned stakeholders are the owners of the business or the shareholders. Shareholders are interested in understanding the value of their equity and how much wealth their investment has accumulated for a particular period (Graham & Carmichael, 2012, ch.10). Other users of the balance sheet are suppliers, financial institutions, and potential investors.
GAAPs Used In the Preparation of a Balance Sheet
Generally accepted accounting principles are set of rules that are used in the preparation of financial statements in a particular jurisdiction. The GAAPs primarily guide the preparation of the balance sheet. Examples of the principles used are the historical cost, matching and revenue recognition principles. A balance sheet is prepared using historical costs. The matching principle applies for expenses such as depreciation.
Relationship of the Balance Sheet with Other Financial Statements
The balance sheet is a summary of accounts showing the totals of assets and liabilities. The financial statement users, however, require more explanation about the transaction that occurred in those accounts during the financial period (Pratt, 2000, p. 52). The cash flow and the statement of shareholders equity explain the transactions taking place in accounts recorded in the balance sheet.
Investors interested in finding out the current and past financial statements of publicly traded companies can visit the Filings page of the US Securities and Exchange Commission website. The website has a database, referred to as the Edgar database that provides the public with free access to corporate information on all publicly traded companies. It allows investors to view the registration statements of companies, their prospectuses, and periodic reports.
- Berry, A., & Jarvis, R. (2006). Accounting in a Business Context. London: Thomson Learning.
- Graham, L., & Carmichael, D. (2012). Accountants’ Handbook. Hoboken, N.J.: Wiley.
- Pratt, J. (2000). Financial Accounting in an Economic Context. Cincinnati, Ohio: South-Western College Pub.
- Spurga, R. (2014). Balance Sheet Basics. New York: Portfolio.