Balance Sheet

Analysis
Reported by:
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What is a Balance Sheet?
A balance sheet lists the value of all of a company's assets,
liabilities, and shareholders' (or owners') equity. The format
is based upon the accounting equation:

ASSETS = LIABILITIES + EQUITY

• The balance sheet has three sections, each labeled for

the account type it represents. Balance sheets can follow
different formats, but they must list the three
components of the accounting equation.
• The most common are horizontally and vertically
structured formats. For investors, the vertical format is
the easiest to read, because it lists the results of multiple
periods in columns next to each other.
• This equation—thus, the balance sheet—is formed
because of the way accounting is conducted
using double-entry accounting. Each side of the
equation must match the other—one account must be
debited, and another credited.

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What does the Balance Sheet
Tell you about the Business?
The balance sheet is an annual financial snapshot. It is also
a condensed version of the account balances within a
company. In essence, the balance sheet tells investors what
a business owns (assets), what it owes (liabilities), and how
much investors have invested (equity).
The balance sheet information can be used to calculate
financial ratios that give investors a general outlook for the
company. Some companies use a debt-based financial
structure, while others use equity. The ratios generated
should be interpreted within the context of the business, its
industry, and how it compares to its competitors.

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Understanding the
Three Parts of the
BalanceSheet
The three parts of a balance sheet follow
the accounting formula. Assets are listed
first, then liabilities, then equity.

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Assets:
The assets section of the balance sheet breaks assets into
current and all other assets. In general, current assets
include cash, cash equivalents, accounts receivable, and
assets being sold.
Cash equivalents are assets that a company can quickly
turn into cash, such as Treasuries, marketable securities,
money market funds, or commercial paper.
Current assets are combined with all other assets to
determine a company's total assets.

Note:
Generally accepted accounting procedures (GAAP) dictate
that companies must list the most liquid assets and short-
term liabilities first, which is why there are usually two
subsections in assets and liabilities.

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Liabilities:
The liabilities section is
also broken into two
subsections—current
liabilities and all others.
These two sections are
combined to calculate total
liabilities. Some
companies, such as
Alphabet (Google),
combine liabilities and
stockholders' equity into
one section

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Owner’s Equity:
The equity section generally
lists preferred and common
stock values, total equity
value, par values (if it issues
bonds), and retained
earnings.

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How to Read a
Balance Sheet
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• While it is required for publicly owned companies to list all
assets, debts, and equity on their balance sheets, the way a
company accounts for and records them varies. This can
sometimes make it difficult to understand what is listed in each
section.
• As an investor, it helps not to be concerned about how a
company records transactions and defines assets; instead, focus
on the information that is provided.
• Vertical balance sheets list periods (usually one year) vertically
next to each other. This lets investors compare the different
periods to help them determine what a company might be
doing. For instance, Johnson & Johnson's balance sheet for
December 31, 2020, lists $174 billion in assets. In 2019, it
recorded $157 billion—the company acquired $17 billion in
assets over that period.
 Tip: If you're using formulas to calculate financial
ratios, you may see terms in the equations not listed on
the balance sheet. This is because the company doesn't
use that item or records them differently. You might have
to search its 10-K or annual reports for explanations.
 Most notably, cash and cash equivalents decreased over the
period. Inventories increased, along with prepaid expenses and
receivables. Property, plants, and equipment value increased,
along with a significant increase in intangible assets, goodwill,
deferred taxes, and other assets.
• Johnson & Johnson increased its liabilities to $111 billion, up
from $98 billion in 2019. It seems that most of its liability
increases have taken the form of long-term debt due in 2025,
2027, the 2030s, 2040s, and beyond.
• From this limited and brief analysis, an investor can see that
Johnson & Johnson has total current assets of $51 billion and
total current liabilities of $42 billion.4 If current assets are
liquid assets, and current liabilities are debts due within one
year, the company has more than enough to pay off its short-
term debts—even with a reduction in cash and cash
equivalents. This is known as "the current ratio," a
measurement used by investors to test short-term financial risk.
To calculate it, divide current assets by current liabilities. In this
case, Johnson & Johnson has a current ratio of 1.2.
• Some businesses have higher and lower current ratios,
depending on how they are financially structured. Generally
speaking, a company with assets and debt should have a current
ratio above 1 to stay afloat. 9
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Useful Ratios:

 Quick ratio: (cash + cash equivalents + temporary

investments + accounts receivable) / current liabilities
 Debt to equity ratio: total liabilities / total
stockholders' equity
 Working capital ratio: current assets - current
liabilities

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The Bottom Line:
It can be easy to get confused when looking over balance
sheets from different companies. It helps to read the
corporate reports and the Form 10-K. The 10-K is required
to be filed with the SEC and summarizes financial
decisions, internal controls, investment strategies, and
much more.5
 These insights can give an investor an excellent idea of
what is going on inside a company.
The balance sheet is one of three required forms that are
important when analyzing a company. It is helpful on its
own, but it is hard to fully understand the financial
performance without its associated statements and annual
reports.

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End of Report:

Thank you very much!

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