3.7 The Balance Sheet and Net Worth

A balance sheet lists a business's assets, liabilities and owners' equity at a specific point in time, like the last day of a quarter. Unlike an income statement, which covers a period, it's a snapshot. It usually shows the same date from earlier years for comparison.

It always balances: assets = liabilities + owners' equity. Rearranged, owners' equity = assets − liabilities, the business's net worth to its owners. Owners' equity is often made up of stock and retained earnings, the profits the business has kept over the years instead of paying them out as dividends.

Assets are everything of value the business owns, grouped by liquidity: how easily they can be turned into cash.

• Current assets (very liquid): cash, short-term investments, accounts receivable (money customers owe the business) and inventory. These pay for day-to-day operations.
• Long-term assets (less liquid): fixed assets used to run the business, like a factory or delivery trucks, and long-term investments.
• Intangible assets: things you can't touch that still have value because they can bring in revenue, like patents, brand names and trademarks.

• Current liabilities, due within one year: accounts payable (money the business owes its suppliers), short-term debt, this year's payments on long-term debt, and accrued expenses (operating costs already used but not yet paid, like wages owed).
• Long-term liabilities, due after one year: mortgages, long-term bank loans and long-term bonds.

Owners, managers, lenders and investors use the balance sheet to check three things: whether net worth is positive, whether the business has enough working capital (current assets that meet or exceed current liabilities) to pay for day-to-day operations, and whether its debt is in line with similar businesses.

If a business can't get enough current assets to keep operating, the owners may shut it down or file for bankruptcy. For a business, bankruptcy is a court-supervised process to sell assets, wipe out or repay debts, and either close or reorganize.

A household's net worth = all its assets (savings, investments, property, possessions) − all its liabilities (loans, credit card balances). Lenders may ask about it on a loan application, and people and financial planners use it to judge whether someone has saved enough to retire.