Seeing What You’re Worth With the Balance Sheet

Seeing What You’re Worth With the Balance Sheet

In this lesson, you’re expected to learn about:
– assessing your assets
– evaluating liabilities
– valuing a company

In the first few lessons this week, we’re going to go over some concepts that you’re already familiar with from the Accounting module.

This may seem slightly repetitive but it is essential to recap the Balance Sheet, P&L Account, and Cash Flow Statement before we can proceed further.

What is a Balance Sheet?

The balance sheet is a record of how the value of a company is allocated so that the directors, managers, investors and other stakeholders can assess how effectively the firm’s assets are being managed.

Also referred to as the Statement of Financial Position, it is a financial report that’s useful to anyone with even the slightest interest in a business including management, investors, and banks.

Purpose of a Balance Sheet

Its main purpose is to show the financial position of the business at a particular point in time.

It reports the value of all the assets the company currently has, divided into relevant categories and also includes the value of the company’s liabilities and shareholders’ funds, each divided in a similar manner.

The basic formula is:
Asset = Liabilities + Shareholders’ Funds

Components of a Balance Sheet

Everything of value in a company falls into three main categories, each representing a section of the balance sheet:

1) Assets: includes anything of value that belongs to the company or is currently owed to or controlled by the company.

2) Liabilities: includes the value of all the company’s debt that needs to be repaid.

3) Shareholders’ Funds: includes all the value that the company holds for its shareholders.

Example of a Balance Sheet
[Optional] Reading the Balance Sheet
Check out this link to learn more:
http://www.investopedia.com/articles/04/031004.asp
Assets include the value of everything the company owns and everything the company is owed. They fall into two main categories:

1) Current Assets: those assets that a company expects to turn into cash within one year from the balance sheet date.

2) Long-term Assets: those assets that will take more than one year to turn into cash or are otherwise not intended to be sold yet (but can be sold if necessary).

Current Assets 

We’ll now look at the sub-sections of the current assets section of the balance sheet from least liquid to most liquid.

1) Stock & Work-in-Progress

This includes the value of all supplies that a company intends to use up during the process of making and selling goods or services.

It consists of:
– raw materials used in production
– work-in-progress products (partially completed)
– finished goods ready for sale
– office supplies and goods consumed in production

2) Tax Assets

Tax Assets include two forms of taxes:

– Corporation tax returns: when a company is set to receive money back on its corporate taxes, that money becomes a short-term asset until the company receives it.

– Deferred tax: occurs when a company meets the requirements to get a tax benefit but is yet to receive it.

3) Prepayments

When a company pays for some expense in advance, the value of the advance payment becomes an asset of which the company will receive services in the future.

For example, if a company prepays its insurance for a full year, the complete amount paid adds to the value of its prepayments.

4) Other Current Assets: this category means different things to different firms. Generally, it’s an all-inclusive category for any assets that are expected to turn into cash within one year but aren’t listed anywhere on the balance sheet.

5) Trade Debtors: this includes the value of all money owed to a company within the next year.

6) Cash & Cash Equivalents: cash refers to the money it actually has on hand, while cash equivalents refer to savings accounts, from which the company can withdraw cash quite easily. Cash is the most liquid asset a company has available.

Fixed Assets

The fixed assets section includes three main categories:

– investments
– tangible fixed assets
– depreciation

Intangible Assets

Intangible assets are things that add value to a company but don’t exist in physical form. They primarily include the legal rights to an idea, image or form.

For example, the owned patent to new forms of medication can be worth a lot to pharmaceutical companies as it gives them the right to produce that medicine while simultaneously restricting other businesses from producing the same drug.

Liabilities include those accounts and debts that a company needs to pay back. Like assets, they usually fall into two categories:

– Current Liabilities: must be paid back, fully or in part, in less than one year.

– Long-term Liabilities: have to be paid back in one year or more from the balance sheet date.

Calculating Current Liabilities

Trade Creditors
Includes any money owed for the purpose of goods or services that the company intends to pay within a year.

Deferred Income
When a company receives payment for a product or service but hasn’t yet provided the goods or services for which it was paid.

Accrued Income & Expenses
Accrued income refers to the amount of money owed to employees while accrued expenses refer to expenses like rent, electricity, water etc. that a company incurs at regular intervals.

Long-Term Debt
Often companies pay long-term debt in small portions over the course of several years.

Other Creditors
This can include a wide variety of liabilities that have to be paid within the next year and are not specified anywhere else on the balance sheet.
Long-Term Liabilities

Long-Term Loans
When a company owes money that it expects to pay in a time period that’s longer than one year.

Finance Lease Obligations
When a company leases an asset through a finance lease, the total amount owed adds to this category.

Preference Shares
In most cases, these types of shares entitle the holder of the shares to cash by way of a dividend or because the holder charges the company interest.

The shareholders’ funds section of the balance sheet breaks down what value the company has to its owners (i.e. shareholders) and how that value is allocated to them.

The amount of value that investors have in a company is equivalent to the amount of total assets the company has minus its total liabilities.

Subsections that fall under shareholders’ funds are:

Ordinary Shares: give their holders the right to receive dividends and obtain company information upon request. These shares also come with voting rights that can influence company policy.

Treasury Shares: shares that the issuing company has repurchased. Companies often hold on to treasury shares in an attempt to drive up their own share price.

Share Premium: the face value of a share is originally set by companies and then the shareholders purchase shares as an investment. Sometimes a company issues shares for more than they’re actually worth, i.e. at a premium.

Profit & Loss Reserves: when a company makes money, it goes to the owners of the company as a dividend or is reinvested in the company. In either case, the money belongs to the company’s owners.

Revaluation Reserve: If a company has an asset (e.g. a building) that it subjects to an independent revaluation on a regular basis, any change in that asset’s valuation is included in this section.

Conclusion

The information compiled in the balance sheet is arguably the most important information available for investors and other owners, as well as lenders who need to determine the financial position of the company in order to decide whether to issue loans.

When you apply this information in certain equations and ratios (which we will see in the upcoming lessons), you can determine the following:

– a company’s ability to pay back loans
– the value of the company’s shares
– the expected return for investors
– how efficiently management is allocating resources
– how effective a company is at managing stock
– how effective it is at collecting debt

[Optional] How to Read a Balance Sheet
Watch this 3-minute video to learn more:
https://www.youtube.com/watch?v=0iToYAnGKwc
Jim Rohn Sứ mệnh khởi nghiệp