There are three elements to a balance sheet, assets liabilities and equity. The three elements together must satisfy the accounting equation for the balance sheet to balance.
An asset is a resource the business has purchased in the past from which future economic benefits are expected to flow.
They are items which a business owns and has control of such as inventory or motor vehicles, but can also include costs which have been paid in advance such as rent, which will be treated as an expense in a future income statement.
Assets can be split into current and non-current assets.
Assets can classified as current assets is they are cash or cash equivalents, or when they are held primarily for the purpose of trade or they are realized or used as part of the normal operating cycle. Current assets includes assets such as inventory, and accounts receivable.
Other assets which are not part of the normal operating cycle, are classified as current assets if they expect to be realized within twelve months of the balance sheet date.
All other assets are classified as non-current assets, and include assets such as property, plant and equipment.
A liability is an obligation the business has resulting from a past event. The settling of the liability will result in an outflow of resources. A liability can also arise from the receipt of revenue in advance. Liabilities are beyond the control of the business.
Liabilities can be classified in the balance sheet as current liabilities or non-current liabilities.
Liabilities can classified as current liabilities when they are held primarily for the purpose of trade or they are settled as part of the normal operating cycle. This includes liabilities such as trade accounts payable, accruals for employee and other operating costs.
Other liabilities which are not part of the normal operating cycle, are classified as current liabilities if they have to be settled within twelve months of the balance sheet date. These will include liabilities such as bank overdrafts and the current portion of bank loans, dividends payable, and income taxes.
All other liabilities are non-current liabilities and includes items such as long term bank loans.
Assets and Liabilities Comparison
The differences between assets and liabilities discussed above are summarized in the table below.
|Future benefit||Future sacrifice|
|Under control of business||Beyond control of business|
|Arises from past event||Arises from past event|
Equity is the amount due to the owners of the business, this includes the capital invested by them and any retained earnings the business has.
Equity can also be viewed as the difference between the assets and the liabilities of the business. This can be seen by rearranging the basic accounting equation.
Assets = Liabilities + Equity
This can be rearranged to give the following:
Equity = Assets - Liabilities