Balance sheets and profit and loss accounts

Balance sheets and profit and loss accounts

The Balance Sheet

  • The balance sheet is a financial statement of a company’s assets, liabilities, and shareholders’ equity at a specific point in time.
  • It gives you a snapshot of what the company owns and owes, as well as the amount invested by shareholders.
  • Assets are what a company owns, these include tangible assets like buildings and machinery, and intangible assets like copyrights or patents.
  • Liabilities are what a company owes, these include items like loans, accounts payable, mortgages, deferred revenues, earned premiums, and unearned income.
  • Equity or shareholders’ equity, is the net difference when you subtract liabilities from assets.
  • Together these three parts of a balance sheet give an investor an idea of the company’s financial health, and its underlying value.

Profit and Loss Accounts

  • A profit and loss account, also known as an income statement, is a financial statement that summarises the revenues, costs, and expenses incurred during a specific period of time.
  • Revenue (the “top line”), subtracts the costs of doing business, including cost of goods sold, operating expenses, tax expenses and interest expenses. The difference is known as net income (the “bottom line”).
  • It’s important to remember that a profit and loss statement shows profitability over a fixed period of time.
  • This document is frequently used along with the balance sheet when assessing financial performance, business decision making, and forecasting future performance.

Interpreting Financial Statements

  • Net profit margin, or net profit divided by revenue, is a key profitability metric normally assessed from the profit and loss account.
  • High-value fixed assets on the balance sheet can signify major investments that can drive future revenue.
  • High liabilities can signal future drains on cash flow.
  • The equity section of the balance sheet reflects the initial capital put into the business, plus any profits that have been reinvested.
  • By carefully analysing both the balance sheet and the profit and loss account, you can gain great insights into the financial health and value of a company.