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New to reading a balance sheet? Here’s what you should know.
While the profit and loss statement indicates a company’s performance for a reporting period, the balance sheet represents its financial position, displaying what the company owns (assets) and owes (liabilities) as of the end of the reporting period.
Capital induced in the firm by shareholders, profits made by the company and debt taken — which appear on the liabilities side of the balance sheet — are used to run the business and acquire assets.
Shareholders’ funds or the net worth of the company is arrived at by subtracting the total liabilities from the total assets. A balance sheet’s assets side should always tally with the liabilities side (which includes shareholders’ funds).
Shareholders’ funds
Shareholders’ funds consists of share capital, reserves and surplus. Share capital is the capital raised by the company from various sources such as promoters, public, government and other firms. So, shareholders are called the owners of the company.
Reserves are the funds that are set aside from the profits for major long-term investment projects and other anticipated expenses. It also includes a ‘general reserve’ created without a specific purpose and which can be used to meet any future obligations of the company.
Reserves also include revaluation reserves that are formed when the assets of the firm are revalued upwards or downwards so that the book value of assets represents their market value. It doesn’t involve any cash outflow/inflow from/to the company.
Surplus is the retained earnings of a company from inception after appropriation of profits for dividends, bonus, general reserves, etc.
The assets/liabilities owned/ owed for more than their operating cycle (typically, 12 months) are grouped under the non-current (long-term) category. An operating cycle is the time between the acquisition of assets for processing and their realisation in cash or cash equivalents.
Non-current liabilities
When a company needs money in excess of the capital raised from shareholders, it borrows money, which is repaid in a specified time period. For this, it can borrow from banks or other parties or raise funds from public by issuing bonds and debentures.
This will be shown under long-term borrowings in the balance sheet. These loans are further divided into secured (obtained by securing assets of the company) and unsecured.
Non-current liabilities also include long-term provisions. A provision is an amount set aside for probable but uncertain obligations of an enterprise.
Non-current assets
Fixed assets under this category include tangible assets such as land, buildings, industrial plants and equipment, and intangible assets such as goodwill, brand/trademarks, and copyrights.
Non-current investments, the second part under this category, include the company’s investments in its subsidiaries or associate firms.
Further, long-term loans and advances, including security deposits, advances and loans given by the company, also are non-current assets.
For example, security deposits worth ₹194 crore (as of March 31, 2018) made by Tata Steel, primarily in relation to public utility services and rental agreements are shown under loans and advances.
Current liabilities/assets
Amounts that are to be paid to a company’s creditors (to whom it owes) and the amounts that are receivable from the company’s debtors (who owe the company) within an operating cycle form part of current liabilities and assets, respectively.
Apart from that, current assets include the value of inventories — raw materials, work in progress, finished goods — and cash and cash equivalents, including balances with banks, cheques, treasury investments and cash on hand.
The difference between current assets and current liabilities gives the working capital of the company. If the result is positive, it is indicative that the short-term debts can be repaid by the short- term assets of the company.
Contingent liabilities
Contingent liabilities include claims against a company not acknowledged by it as debt. For example, Sun Pharma Laboratories’ contingent liabilities include disputed income tax of ₹1,216 crore (as of March 31, 2018), payment of which is determined only on receipt of judgements.
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