Welcome to our series on Business Turnaround tips. In the last post, we covered the Cash Flow statement. I’d recommend you read that first before this one – check it out here. In this Balance Sheet 101, I’m going to cover the very basic elements of a Balance Sheet; and what to look out for in a business turnaround situation. Are you ready? Let’s dive right in.
Balance Sheet 101
Purpose: To determine how much your company is worth.
On the left-hand side, you will see your Assets. The assets are broken down into 2 main sections:
- Current Assets (short term)
- Fixed Assets (long-term)
Accountants follow something called ‘Generally Accepted Accounting Principles’ (GAAP). These are not rules as such but more guidelines. Therefore the things that go in the ‘Current Assets’ section are things that are owed to you and you would expect that money within a year. That’s classed as ‘short-term’.
Included within the Current Assets is the cash in the bank. Your cash left over is classed as a short-term asset.
Fixed Assets (your long-term Assets) are things that yield you a return over a longer period such as buildings, machinery etc.
Similarly, your Current Liabilities are things you owe out short-term i.e. you expect to pay those out within a year.
Long Term Liabilities are things you are paying over longer periods of time. This could include things like bank loans, building leases and other forms of debt.
This is the net result of all your assets minus all of your liabilities. Her’es the formula:
TOTAL ASSETS – TOTAL LIABILITIES = SHAREHOLDER VALUE
In the example above, the total assets are £2.75m and the total liabilities are £1.49m. That means the business’ net worth (Shareholder Value) is £2.75m minus £1.49m which comes to £1.85m (in very simple terms). There is of course, much more to the Balance Sheet. But for now, I just want you to understand the basic principle.
Why is the Balance Sheet important?
The Balance Sheet gives you an overview of whether you’re actually worth anything or not, and can help you take control of your assets and liabilities.
If for example, your liabilities are out of control, then you can start to do something about it and start a project or campaign to reduce your debt.
You can see lots of key information such as how much money you expect to receive in a year vs how much money you expect to pay out in a year.
If you have a manufacturing business, then you must look at your holding inventory position. Inventory can be classed as dead money or an asset (if you sell it). Always look to see how much you’re holding and most importantly, how much you might need to write off in case you can’t sell it.
Key Resource – Finance for NonFinancial Managers, Gene Siciliano
The Balance Sheet must be used in a business turnaround situation. To increase your Shareholder Value you have 3 options:
- Increase Assets
- Decrease Liabilities
- Do both
In a business turnaround, it’s essential to work on both. This is why the cash flow statement is so important if you are looking to collect cash or are chasing invoices.
Similarly, there’s a big temptation to keep borrowing money. However, if you review your Liabilities you may find that borrowing is the last thing you want to do. Instead, you may need to negotiate better interest rates and try to reduce your payments.