How to use the Balance Sheet to analyze a company's financial position

Balance Sheet or known as the Balance Sheet is one of the most valuable financial tools for executives, investors, and business owners because it provides a clear picture of how many resources the business has, how much debt needs to be paid, and the true ownership stake.

What is a Balance Sheet and Why Is It Important?

Balance Sheet (Financial Position Statement) is a financial document that captures the financial status of a company at a specific point in time, divided into three main sections: assets owned by the company, liabilities to be paid, and the owners’ equity remaining.

This fundamental equation is the core of the Balance Sheet:

Assets = Liabilities + Owners’ Equity

Why is it called a “Balance Sheet”? Because both sides of the equation must always balance. This is the basic principle that makes this account reliable for financial analysis.

The 3 Main Components You Need to Know

Assets ( - Valuable items owned by the company

Assets are everything the company owns that can generate value or income. They are divided into 2 types:

Current Assets with high liquidity, convertible to cash within one year, such as cash, trade receivables, inventory.

Non-current Assets with low liquidity, difficult to convert to cash, and take longer to realize, such as land, buildings, machinery, long-term investments.

) Liabilities ### - Obligations to be paid

Liabilities represent money borrowed or obligations owed to external parties or institutions, divided into 2 types:

Current Liabilities payable within 1 year, such as trade payables, short-term loans.

Non-current Liabilities payable over more than 1 year, such as long-term loans, bonds payable.

( Owners’ Equity ) - The true value of the business

Owners’ equity is the remaining assets after deducting liabilities, representing the actual capital that shareholders will receive. It includes:

• Capital contributed by investors
• Retained earnings or accumulated losses from multiple years of operations

Why Use a Balance Sheet for Decision-Making?

1. Analyzing the company’s liquidity

Compare current assets with current liabilities to see if the company can meet short-term obligations. If current assets exceed current liabilities, it indicates good liquidity.

( 2. Assessing profitability potential

Investors can see indicators of income-generating ability from the value of owners’ equity increasing steadily, showing efficient use of capital.

) 3. Comparing with competitors

The Balance Sheet helps you see where your company stands relative to others in the same industry.

How to Read a Balance Sheet Correctly

Step 1: Check for balance

Verify that the fundamental equation holds true: Assets = Liabilities + Owners’ Equity. If not balanced, the data may be incorrect.

Step 2: Analyze asset structure

• Do current assets constitute more than 50% of total assets?
• Is the ratio of current to non-current assets appropriate for the company’s business?

Step 3: Check debt-to-equity ratio

How much debt compared to owners’ equity? A lower ratio indicates less risk.

Step 4: Compare over different periods

Observe changes in assets, liabilities, and owners’ equity year over year to identify growth trends or operational performance.

Why the Name Changed from “Balance Sheet” to “Statement of Financial Position”

The original name “Balance Sheet” only indicates that the numbers balance but does not explain the purpose and true content. The new name “Statement of Financial Position” is clearer, showing that this document presents the financial position of the company comprehensively.

Cautions When Using a Balance Sheet

Past Data Only

A Balance Sheet is a snapshot at a specific point in time, not real-time data. If significant events occur after the date prepared, the information may be outdated.

Reliability

Not all companies record accounts honestly. Sometimes, the Balance Sheet may be manipulated to look better than reality. Always check details and additional disclosures.

Economic Environment

Changing economic conditions, such as interest rates, inflation, or currency devaluation, can make old data less comparable. Consider the economic context of each period.

Summary

The Balance Sheet is an unavoidable tool for those who want to deeply understand a company’s financial position. Whether you are an executive, investor, or business owner, reading and analyzing the Balance Sheet correctly will help you make better decisions.

When used together with other financial documents like the income statement and cash flow statement, it provides a complete picture of the financial status, leading to better investment or business management decisions.