What is a balance sheet?

How do you read a balance sheet?

The top half lists assets: fixed assets such as vehicles and equipment, then current assets such as stock, debtors and cash. The middle lists liabilities: what is owed to suppliers, HMRC, lenders and, in a company, the directors. Assets less liabilities is net assets.

The bottom half shows where those net assets came from: share capital the owners put in, plus retained profit the business has earned and kept. That total always equals net assets, because every pound of value in the business was either put in or earned.

Read it for three things. Can the business pay its short-term debts from its short-term assets? Is it carrying more debt than it should? And is net assets growing, which means the business is keeping some of what it earns.

A worked example

A one-director consultancy on 31 March:

How is a balance sheet different from a profit and loss?

A profit and loss covers a period: what came in and went out between two dates. A balance sheet is a single date: what the position was at midnight on 31 March. One is a film, the other a photograph.

They connect through retained profit. This year's profit, less anything paid out as dividends, is added to retained profit on the balance sheet. A business can show a healthy profit and a weak balance sheet if that profit has been drawn out faster than it was earned.