adminBalance sheet
The balance sheet is a list of balances arranged according to whether they are assets, capital or liabilities, to depict the financial situation of the business on a specific date.
It is often referred to as a ‘‘snapshot’’ of the firm on a particular date as if we had entered in the firm and taking photographs of the various components that make up the business.
It can only be constructed on one date and not over a period of time as the values for assets and liabilities will change frequently.
The balances that are featured in the balance sheet would be the balances remaining on our trial balance after the trading and profit and loss account for the period has been completed. All the balances remaining have to be assets, capital or liabilities. All other balances would have been closed off when the trading and profit and loss account was completed.
The word ‘‘account’’ generally indicates if something is part of the double entry system. Therefore, both the trial balance and the balance sheet are not part of the double entry system. No entries are made in the ledger accounts to record the fact that we have drawn up a balance sheet. All we are actually doing is listing the assets, capital and liabilities balances so as to form a balance sheet.
As with the trading and profit and loss account, there are two ways of presenting a balance sheet — horizontal and vertical. The vertical style will be adopted in this course although we will briefly show you what a ‘‘horizontal’’ balance sheet is.
Balance sheet layout
Assets will appear under two headings: fixed assets and current assets.
Fixed assets can be characterised by the following features:
They are expected to last for at least one year (ie long-term)
They are to be used in the business to help generate income for the firm (eg they could be used in production)
They were not bought specifically for resale although they may be sold later
Examples of fixed assets would include land and buildings, machinery, fixtures & fittings.
Current assets can be characterised by the following features:
They have a short life within the firm (less than one year).
They can be converted into cash fairly quickly (ie they are liquid).
Their values will change frequently stock levels fluctuate, banks balances move up and down, and debtors and creditors will alter as personal accounts are settled.
Current assets are stock, debtors, bank and cash.
The order that current assets appear is in relation to how quickly they can be turned into cash. This means that cash will appear at the bottom of the list because it is the most liquid of all the assets, closely followed by debtors, then stock.
As we know from the accounting equation, and our work on double entry bookkeeping, all transactions are considered in their dual affect on the business.
The balance sheet is no exception. As the name suggests, there will be two ‘sides’ to the balance sheet which must, obviously, balance. A balance sheet which does not balance is an incorrect balance sheet.
Other balance sheet sections:
Capital
Here we list the total resources that have been injected into the firm by the owner as at the end of the financial period under analysis. This figure will need to be adjusted for items which increase capital and items which decrease capital.
Net profits would be added to the capital balance, whereas net losses would be deducted.
Drawings are reductions in capital and therefore will always be deducted on the balance sheet.
Liabilities
Liabilities relate to any amounts of money that have been borrowed by the firm. Technically, capital is a special form of liability in that the business is ‘borrowing’ money and resources from the owner of the business. However capital will always be kept separate from the liabilities of the firm. Liabilities are split into two sections – defined below:
Long-term liabilities
Money owed by the firm which will not be repayable until after one year or more (eg bank loans and mortgages).
Current liabilities
This is money owed by the firm which will be repaid during the next year (e.g. creditors and bank overdrafts).
As stated earlier, we need the remainder of the balances from the trial balance which were not used in the construction of the trading and profit and loss. — thestudentroom.co.uk0
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