1 Understanding a balance sheet

Lesson Objective Understand the main elements of a balance sheet. Understand the difference between assets and liabilities. 2

3 Basic principles of a balance sheet Most businesses borrow money to help them to operate. A balance sheet has a special section – called Sources of Funds. This shows how much money has been borrowed or invested – and where it came from. The term ‘balance’ means that all the money invested or borrowed (Sources of Funds) must be accounted for in another section, called Net assets

4 What are assets? last a long time, eg buildings, vehicles, computers cost a lot of money could be sold to increase capital (ie money owned by the business) You will keep them for more than 12 months Fixed assets are items owned by the company which:

5 What are assets? Current assets include: Assets for LESS than 12 months Assets which can be turned to cash easily and quickly Items used and replaced regularly, eg raw materials or stock Customers who owe money (called debtors) for goods they have bought Money in the current bank account.

6 What are liabilities? Current liabilities are: Debts that will be paid within 12 months Money the business owes to suppliers (called creditors) for goods purchased on credit Short term loans Examples: Overdraft, tax, dividends

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8 What are Sources of Funds? Includes capital and reserves. Share capital = is money which shareholders have invested in the business Reserves = profit from previous years which has been kept to finance future developments Profit and loss account = money kept back from the current year’s profits.

9 The key principle of a balance sheet Sources of Funds Net Assets must equal Long term liabilities Plus reserves Plus Share capital Fixed assets Plus Current assets Less current liabilities Working Capital

10 The structure of a profit and loss account 1 – Assets Fixed assets £ Buildings60,000 Equipment20,000 Total fixed assets80,000 Current assets Stock20,000 Debtors10,000 Cash at bank10,000 Total current assets40,000 (Total assets = £120,000 but this figure doesn’t show)

11 The structure of a profit and loss account 2 – Current liabilities LIABILITIES £ Current liabilities Creditors-10,000 Net current assets/liabilities30,000 (This is the current assets - £40,000 - minus the current liabilities) Total assets less current liabilities110,000 (This is the total assets - £120,000 - minus the current liabilities)

12 The structure of a profit and loss account 3 – Capital and reserves Capital and reserves £ Share capital70,000 Reserves30,000 Profit and loss account10,000 Shareholders’ funds110,000 (This is the total amount in capital and reserves. It must equal the same amount as the total assets minus current liabilities)

13 Putting it all together ASSETS Fixed assets(assets listed) Total fixed assets £80,000A Current assets(assets listed) Total current assets£40,000B LIABILITIES Current liabilities –£10,000C Net current assets/liabilities£30,000B – C Total assets less current liabilities£110,000A + B – C Capital and reserves(all listed) Shareholders’ funds£110,000D

14 ‘Reading’ a balance sheet Both the balance sheet and the profit and loss account show the ‘health’ of the business Shareholders, customers, suppliers, employees and other groups of people will be interested in both types of account.

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16 Key aspects on a balance sheet Fixed assets – is there enough money secured in items which could be sold to raise capital? Cash in bank – is there enough to cover a short- term crisis? Net current assets/liabilities – if this figure is negative, the business hasn’t enough money to pay all the creditors in a reasonable time Shareholders’ funds – are these increasing? Shareholders want their investment to grow.

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18 Complete Work sheets

Lesson Objective Understand the main elements of a balance sheet. Understand the difference between assets and liabilities. 19