The Balance Sheet is one of the most valuable parts of the financial statement. Balance Sheet reports and presents three main financial statements including Assets, Liabilities, and (Equity) Capital of the entity. It depicts the financial position of the business on a particular date.
It is normally presented in two columns by showing the current balance and its comparative balance. So that users could see the difference in position in the current reporting period compared to the previous balance.
As per renowned author O.P. Gupta, the Balance Sheet is more like a mirror, reflecting the true position of assets and liabilities of the business on a particular date.
This statement is significant for assessing the entity’s financial position, especially its liquidity position.
The following is the list of advantages of the balance sheet (statement of financial position) that all types or classes of stakeholders could take advantage from:
List of Advantages of Balance Sheet:
- Business Snapshot: A Balance Sheet is also known as the statement of financial position. It is the snapshot of what a business owns (i.e. assets) and what a business owes (i.e. liabilities). The difference between assets and liabilities is called the net worth of the business. Net worth is also called shareholders’ equity. The Balance Sheet provides the information that owners need to know and take advantage of the same. A balance sheet helps in the management of working capital. It lists out the current assets and the liabilities that the business owes that need to be paid currently. Working Capital Management is made easier by the processing of information in the Balance Sheet.
- Determination of Risk and Return: The balance Sheet compartmentalizes itself into various parts among which short and long-term assets and liabilities are important ones. Current and Long-term assets reflect the ability of the business to generate free cash flows and maintain its operations. On the other hand, short- and long-term debt obligations provide an eagle-eye view of how a business should prioritize its financial obligations. In short, the balance sheet shows you the financial position of the business.
- Securing additional capital: Lenders require a Balance Sheet to determine the financial health and creditworthiness of the business. Prospective investors analyze the balance sheet to understand where their money will be invested and how it will be repaid. A comparative Balance Sheet over a few years effectively shows the ability of the business to collect payments from debtors and repay debts to creditors. The better the balance sheet, the better the prospect of getting higher funding. The ability to repay loans is directly related to the quality of the balance sheet.
- Financial Ratios as Silver Lining: Financial ratios are derived by analyzing the various components of the balance sheet. Ratios are used in the analysis of financial statements to indicate the company’s operational efficiency, liquidity, profitability, and solvency. Financial ratios make it easier to analyze the capital structure, inventory cycle, and average debtors’ period in case of repayment. If the business is regularly servicing the debt, it is considered great and there are financial ratios derived to do the same. This information is helpful for identifying trends over time and allowing the business to see the financial structure and operational efficiency of the business. Further, there are dozens of balance sheet ratios that are very helpful in comparing the business to its direct competitors.