Let us understand this with an example: During our school or college days, we gave our yearly examination.

Let us understand this with an example: During our school or college days, we gave our yearly examination. After that we used to get our report card which was a reflection of how have we studied during the whole year. We can consider this report card as a balance sheet which showed us what we did the entire year. So, a Balance Sheet in financial terms shows us what a company owns as an Asset and what it owes to its lenders as a Liability at a particular point of time. Suppose we own a piece of land, this forms a part of our Assets. Any kind of Loan we might have taken to fund the purchase of this land will form a part of our Liability.

Let us understand this further. A Balance Sheet has two major categories: Assets and Liabilities. Now Assets are of two types: Non Current Assets & Current Assets. Non Current Assets helps the company generate revenue & are meant to be owned for long term. For example Machinery, Building, Land, Long term Investments etc. Current Assets are those which can be converted into cash in a shorter span of time generally one year or one business cycle. For example Inventories, short term investments into stocks, bonds, or cash at Bank.

Similarly, Liabilities are also of two types: Non Current Liabilities & Current Liabilities. Non Current Liabilities represents that part which the company repays to its lenders after 1 year or more. For example Secured Loans, Long term Borrowings etc. On the other hand Current Liabilities represent that part of money which the company has to repay within a year. For example Short term Borrowing, Trade Payables etc.

Now coming to the next section of this video, what do all these tell us about the company and how do we evaluate a balance sheet. Let us understand this item wise. If Noncurrent assets increase then that means company is creating more assets for itself which it can use over a long period of time. Which means the growth looks good for the company and that is the reason, the company is increasing its asset size. If current assets increase like Inventories which is unfinished or finished goods than that is a cause for concern, as that means that the company is not being able to sell its goods or is facing competition. If trades Receivables increase then that means that the company is unable to make any cash sales and thus debtors are increasing which will eventually lead to stress in the company’s liquidity. Similarly if Noncurrent Liabilities increase then we need to check whether the company actually needs the funds for its business or not and what is the status of Debt Equity ratio. We also need to check whether there can be any adverse effect in the company’s profit with the increase in long term loans. Likewise if current liabilities like trade payables increase then that means that the company may have some liquidity issues because of which it is unable to pay its creditors.

Now why do we even need to keep such records? Firstly, this helps us to get a snapshot of what a company owns and what it owes. It also helps the owners of a business to get an idea of the financial position of the company which would help them to take vital decisions. So, in this video we learned that the Balance Sheet is simply a report card of a company which shows us the financial health. Based on this, a shareholder will be able to decide whether or not the company’s financial position is strong and whether they should invest in that company or not.

Thank you for watching the video!