Hong Kong
  • Singapore
  • UK
  1. Osome Blog Hong Kong
  2. Understanding Balance Sheets

Understanding Balance Sheets

Understanding Balance Sheets

When it comes to managing your business, one of the most crucial financial statements is the balance sheet. We cannot emphasise how important it is to learn how to read a balance sheet to ensure your company's financial health.

To read a balance sheet, you will have to analyse your company’s reported assets, liabilities and equity to have a clearer idea of what your business owns and owes at a point in time. As overwhelming as that may sound, all it takes is a few key concepts to grasp, and you’d be reading a balance sheet like a pro.

By the way, if you want to fuel the growth of your company by focusing on core business activities, we get it. Why not leave the accounting tasks to our experts?

Here’s everything you need to know about a balance sheet.

What Is a Balance Sheet?

A balance sheet is also known as a “statement of financial position”, designed to reflect the value of a company or organisation. The balance sheet reveals the company’s assets, liabilities, as well as the owners’ equity (net worth) as of a particular date, otherwise known as the “reporting date”. It goes hand in hand with two other key financial statements used to evaluate a business  — an income statement and a statement of cash flow between the two, known as the cash flow statement. All these financial statements might be prepared by accounting services.

A balance sheet is generally prepared and distributed on a monthly or quarterly basis, with its frequency of reporting being determined by the company policy or by law.

What Is the Purpose of a Balance Sheet?

The purpose of a balance sheet is for business owners and investors alike to better understand and gauge the general financial health of their business, on top of what the company owns and owes.

How Does a Balance Sheet Work?

As its name suggests, a balance sheet should always balance. A balance sheet is split into two portions and ensures both sides are equal, with this main formula:

Assets = Liabilities + Shareholder Equity

In other words, the company’s assets, or the means to operate the business, are balanced by the business’s financial obligations and equity investment brought into the business and its retained earnings.

Take note that the balance sheet provides a snapshot of your business’s financial position at a single point in time.

The Key Terms You Need To Know To Read a Balance Sheet

Let’s examine what is usually included in each of the 3 categories of value: assets, liabilities, and shareholders’ equity.

  1. Assets

An asset is anything of value owned by your business. In a balance sheet, your assets are usually considered positives and further categorised into current assets and non-current assets.

Current assets typically have a lifespan of a year or less, following which the company will convert into cash. This includes:

  • Cash and cash equivalents
  • Inventory
  • Prepaid expenses
  • Accounts receivable
  • Marketable securities

On the other hand, non-current assets are long-term investments that typically have a lifespan of over a year and are not easily converted into cash within a year. This includes tangible and intangible assets, such as:

  • Land
  • Machinery
  • Buildings
  • Computers
  • Equipment used to produce goods or perform services
  • Intellectual property
  • Patents
  • Trademarks
  • Brands
  • Goodwill
  • Copyright
  1. Liabilities

On the other side of the balance sheet, we have liabilities. Think of it as the opposite of an asset. While an asset refers to something a business owns, liability refers to something the company owes.

Liabilities are legal and financial obligations a company has to pay an amount of money to a debtor, and are generally tallied as negatives in a balance sheet. Just as assets are divided into current or non-current, liabilities are also split as current liabilities or non-current liabilities.

Current liabilities typically refer to those that must be paid within a year, which may include:

  • Payroll expenses
  • Utility payments
  • Rent payments
  • Accounts payable
  • Debt financing
  • Other accrued expenses

Non-current liabilities, or long-term liabilities, are debts and other non-debt financial obligations which will not be due within a year, which may include:

  • Leases
  • Bonds payable
  • Loans
  • Deferred tax liabilities
  • Provisions for pensions
  • Obligation to provide services or goods in the future
  • Hire purchases

A note on categorising loans and hire purchase:

Some loans can be split between current and non-current liabilities. When the loan is due within a year, it will be categorised under current liabilities. For the balance payable of the loan or hire purchase, due beyond a year, it will be categorised under non-current liabilities.

  1. Shareholders’ Equity

Shareholders' equity, also known as owners’ equity, refers to a company’s total net worth. It factors in the initial amount of money an owner invests in the business. If the company reinvests its net earnings at the end of the year, these will be considered retained earnings and will be reflected in the balance sheet under shareholders’ equity.

Let’s take a closer look at an example of a balance sheet. For instance, a company has:

  1. Assets:

Cash — $2,050

Accounts receivable — $6,100

Inventory — $900

Total assets — $9,050

  1. Liabilities

Accounts payable —  $150

Wages payable — $2,000

Total liabilities — $2,150

  1. Equity

Common stock — $5,000

Retained earnings — $10,900

Drawing — −$9,000

Total equity — $6,900

Applying the formula,

$9,050 (Assets) = $2,150 (Liabilities) + $6,900 (Equity)

The Bottom Line

The information reflected in a company’s balance sheet ranks among some of the most crucial for a business leader or potential investor to comprehend. Without the balance sheet, it can be tricky to gauge if a business is thriving or struggling, which is why reading a balance sheet is an important skill for anyone doing business.

Tip

Besides accounting, If you need help with being a compliant company, our company secretaries in Hong Kong can help you stay on top of paperwork.

Share this post:

Tips to run your business smarter.
Delivered to you monthly.

You'll receive a verification email you'll have to open and confirm the subscription.

You might like it

Deadlines To Keep In Mind To Stay a Compliant Company in Hong Kong
Secretary

Deadlines To Keep In Mind To Stay a Compliant Company in Hong Kong

Tax and filing deadlines are the bane for many company directors, but we can be fairly certain they’re here to stay. Whether you’re a Type A (“Deadlines are easy!”) or Type B (“When is my next deadline?!”) entrepreneur, we’ve put together this handy guide for you.

Annual Return Filing Dates To Take Note of for New Business Owners
Incorporation

Annual Return Filing Dates To Take Note of for New Business Owners

New business owners or even company officers may not be familiar with the necessary paperwork to deliver to local authorities for annual requirements. Everything is new. Starting a business in Hong Kong is already so tough and now there is paperwork to deliver to be compliant?

Osome Raises $16M in Series A Round for Its AI-based Accounting Platform To Expand Globally
News

Osome Raises $16M in Series A Round for Its AI-based Accounting Platform To Expand Globally

Osome has raised $16M in a Series A funding from a group of investors including Target Global, AltaIR Capital, Phystech Ventures, S16VC, Ace & Company and Peng T. Ong, who joined as an angel investor.

What Happens When You Avoid Tax in Hong Kong? A Guide to Tax Evasion Penalties
Tax

What Happens When You Avoid Tax in Hong Kong? A Guide to Tax Evasion Penalties

Hong Kong is well-known for its simple and straightforward tax regime, which makes the country one of the best places you could start a business in. However, despite the favorable tax rates, there are still cases of tax evasion which leads to legal consequences.

Osome Is Named Singapore Partner of the Year at Xero Asia Awards
News

Osome Is Named Singapore Partner of the Year at Xero Asia Awards

A confirmation of Osome’s commitment at innovation and customer service, this is simply a great way to end 2020. Find out more on how and why we won.

Fulfillment and Storage: The Impact on Your Online Business
E-commerce

Fulfillment and Storage: The Impact on Your Online Business

So, you have reached a turning point in your company’s growth and feel like you need to focus more on order processing and fulfillment. That’s great because that will allow you to grow your sales.

An Online Seller's Guide to Currency Risk
E-commerce

An Online Seller's Guide to Currency Risk

If you trade in a stronger currency, you will have to pay more for fewer items, which can squeeze your profit margins and make competing with other businesses difficult for you. It can also affect your ability to make profitable investment opportunities.

An Overview of Amazon's Logistics Chain
E-commerce

An Overview of Amazon's Logistics Chain

The Amazon website must integrate a wide range of functions in order to deliver full functionality. It is for this reason that Amazon's supply chain is so important to its success and operation.

Best Bank Accounts for E-commerce Businesses
E-commerce

Best Bank Accounts for E-commerce Businesses

Banking alternatives are emerging as new banking solutions which are good news for online businesses searching for more business bank accounts options for their e-commerce store.

What You Need To Know About Naming Your Ecommerce Store
E-commerce

What You Need To Know About Naming Your Ecommerce Store

Choosing a good brand name once you have registered your company is important for an e-commerce business store because it will grow to be the brand that users identify with.

What to Look for When Choosing a Domain Name for Your E-Commerce  Website
E-commerce

What to Look for When Choosing a Domain Name for Your E-Commerce Website

A domain name is an identity and at the same time, the address for customers to get to e-commerce businesses’ stores online. Thus, choosing the perfect domain name is important for your e-commerce business.

Calculating Taxes: The Self-employed & Freelancer Guide
Tax

Calculating Taxes: The Self-employed & Freelancer Guide

Partner of a partnership business or sole proprietor? If you’re self-employed and earning an income in Hong Kong, this article will help you get up to speed on all you need to know about calculating taxes for freelance work.

Tips to run your business smarter. Delivered to you monthly.

You'll receive a verification email you'll have to open and confirm the subscription.

We’re using cookies! What does it mean?