Know more about a balance sheet

The company has a superb balance sheet… The balance sheet is solid… The balance sheet remains steady…The balance sheet. When it comes to stock analysis, it’s something that’s referred to a lot. But why?

Simply put, the balance sheet is one of the most important financial documents you can use to evaluate a company’s fundamentals ( “Getting Started: Fundamental Analysis” ). As one of the principal corporate financial statements, the balance sheet’s job is to essentially tell investors where a company stands financially. The balance sheet consists of two main sections: first, assets (usually presented on the left) and second, liabilities and shareholders’ equity (usually presented on the right). A company’s assets consist of anything it owns that has real financial value. The liabilities and shareholders’ equity (also known as owners’ or stockholders’ equity) section represents the ways that those things were paid for. Liabilities are anything that a company owes to someone else; bank loans and bond issues are common examples. Shareholders’ equity consists of the company’s stock (the kind you might have in your own portfolio) as well as the income the company holds onto from operations, called retained earnings. Each of these — liabilities, stock proceeds and retained earnings — can be used to purchase the assets listed in the other section of the balance sheet. Assets = Liabilities + Stockholders’ Equity The above accounting equation is what makes the balance sheet balance. It’s one of the original concepts in financial accounting: A company’s assets are equal to its liabilities plus its stockholders’ equity. It makes sense. Think about it: A company can’t buy stuff without taking out a loan or selling enough stock to pay for it. The accounting equation holds true for a business on any scale — even a kid’s lemonade stand. With $10 spent on lemons and sugar and another $5 borrowed from Mom and Dad to paint the stand, a kid’s lemonade stand balance sheet might look a little like this: Assets
Supplies inventory: $10
Property and equipment: $5
Total assets: $15 Liabilities and Stockholders’ Equity
Liabilities: $5
Shareholders’ equity: $10
Total liabilities and stockholders’ equity: $15
Even though the kid spent that $15 on his or her lemonade business, that amount remains on “the books,” both in the assets section (since the drink-making supplies are still on hand until the drinks start selling) and the liabilities and stockholders’ equity section (money the kid put into the company is his or her equity, and the kid still owes Mom and Dad that $5).

 

The Balance Sheet: Assets

Back to the real world and the assets section of the balance sheet: Some common assets you’ll likely see in this section are cash, accounts receivable, inventory, property, plant and equipment and goodwill. Some items, such as cash, are self-explanatory. Other items such as accounts receivable aren’t. Accounts receivable represents liabilities owed to the company in the form of credit sales to customers. Because they’re owed to us, they’re assets in our eyes. Property, plant and equipment (PPE) is the account used to value a company’s facilities. If you own stock in Apple, then its manufacturing facilities, corporate campus and retail stores would typically all be included under PPE. Assets are classified as either current or noncurrent. Current assets are readily convertible to cash or will be used up in the course of one business cycle (one year for most companies). Noncurrent assets, such as land, are those that are going to stay on our balance sheet a little bit longer. These classifications hold true for liabilities as well. But can you ever have too many assets? Possibly. Remember that every asset has to be paid for with either a liability or stockholders’ equity. If a company is buying superfluous assets with massive debt or stock issues that devalue the holdings of current investors, it’s probably best to steer clear of that company.