The Balance Sheet Explained: Assets, Liabilities and Equity
The balance sheet shows on one date what a business owns and how it was financed. Both sides are always equal.
Updated
What is a balance sheet?
A balance sheet (statement of financial position) is a snapshot on one date, usually the end of the financial year. One side lists the assets: everything the business owns. The other side shows where the money for those assets came from: equity from the owners and liabilities to others.
Every pound of assets has to be financed somehow, so both sides always add up to the same total.
Assets = Liabilities + Equity
Example: a small trading business
Assets
Machinery£50,000
Inventory£20,000
Trade receivables£10,000
Bank£15,000
Cash£5,000
£100,000
Equity and liabilities
Equity£40,000
Bank loan£45,000
Trade payables£15,000
£100,000
The business owns assets of £100,000. £40,000 of that is financed by the owners, £60,000 by debt: a £45,000 bank loan and £15,000 of unpaid supplier invoices.
Equity is not cash in the till but what is left: assets minus liabilities. Here £100,000 − £60,000 = £40,000.
Assets: non-current and current
- Non-current assets stay in the business for more than a year: land, buildings, machinery, vehicles, software, investments.
- Current assets are used up, sold or already money: inventory, trade receivables, bank and cash.
Equity and liabilities
- Equity: capital paid in by the owners plus profits kept in the business.
- Non-current liabilities: debt due after more than a year, such as long-term loans.
- Current liabilities: debt due within a year, such as trade payables and overdrafts.
Check yourself
A business has assets of £300,000 and liabilities of £220,000. What is its equity?
Where does a company car go that the business plans to use for five years?
More on accounting
Typical exam mistakes
- Confusing equity with cash: equity is the difference between assets and liabilities.
- Putting receivables on the liabilities side: a receivable is money you will get, so it is an asset.
- A balance sheet that does not balance: an item is missing or equity was not worked out as the difference.
- Listing expenses and income on the balance sheet: they belong in the income statement.
Your turn
Three transactions from the journal entry trainer: choose the accounts, enter the amounts and check.
Transaction
We pay £4,100.00 from the till into the bank account.
Debit
Assets up · expenses · liabilities down
Total debit£0.00
Credit
Liabilities up · income · assets down
Total credit£0.00
Frequently asked questions
Why does the balance sheet always balance?+
Every asset is financed either by the owners or by debt. Equity is what is left after liabilities, so both sides are always equal.
What is the difference between the balance sheet and the income statement?+
The balance sheet shows balances on one date. The income statement shows the income and expenses of a period. The profit for the period increases equity on the balance sheet.