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It is a financial snapshot of the business. It provides information about the business at a particular point in time. The cash flow and income statements measure a flow of funds, while the balance sheet measures the stock of wealth of the business on a particular day.
The balance sheet has three major sections: assets, liabilities and net worth.
Assets describe what the business owns of monetary value, while liabilities are the debts owed by the business.
Assets and liabilities are grouped in three categories. Current assets or current liabilities are those items which will be used up or paid off in less than a year.
Intermediate assets or intermediate liabilities are those items that will last more than one year and no longer than 10 years. Long-term assets or long-term liabilities are those items that will last more than 10 years.
Net worth is the difference between assets and liabilities. When a business owns more than it owes (the net worth of the business is positive), the business is said to be solvent.
The balance sheet will show the liquidity of the firm.
Liquidity refers to the ability of the business to retire its current liabilities. If a business is liquid, it can sell off current assets and use the proceeds to pay off accounts payable and short term notes payable. The business can also meet its present obligations on intermediate and long term loans, present tax liabilities, etc. Liquidity and solvency are used to measure the effect of an unexpected loss would have on the business (risk-bearing ability).
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