Balance Sheets and Cash

The balance sheet is not quite as straightforward as the income statement (P&L); however, we can still break it down into simple terms and build from there.

• What is a balance sheet?  It is a tool that compares Assets (what we own) against Liabilities (what we owe) and Equity (what we have accumulated in profits or losses).
• The balancing formula is that assets must equal liabilities plus equity. The balance sheet is constructed and presented using this formula.

 

Example:

Let's take a moment for an example that many of you will be able to relate to--your home. If you own your home, the value of it is considered an asset (you own it). You may also have a mortgage on your home which is considered a liability (what you owe the bank) and the difference between the value of your home and what you owe the bank is equity (value you have accumulated). Here is a breakdown using sample numbers: 

Value of your home (today)	$300,000	(asset)
Less: Mortgage balance (today)	$200,000	(liability)
Equity (today)	$100,000	(equity)

The reason we specifically noted each item above as "today" is because when you purchased the home it may not have been the same value as today (or any other date). That is also true of your mortgage balance, which will vary day-by-day. Changes in the previous two numbers mean that your equity would also be different. Your personal balance sheet, if you owned absolutely nothing other than your home, would look like this today: 

Assets
Home	$300,000
Total Assets	$300,000
Liabilities and Equity
Mortgage to Bank	$200,000
Equity	$100,000
Total Liabilities and Equity	$300,000

One difference between the balance sheet and the P&L is the time frame to which it pertains. The P&L covers a period of time such as a month, a quarter, or a year. The balance sheet is a snapshot of a specific point in time. If the date of the balance sheet is as of December 31^st, it is literally a snap shot of that day.