What is a statement of financial position (balance sheet)?

April 20, 2010 by Victorino
Filed under Business Finance, Financial Accounting

As amended by International Accounting Standard – IAS 1 (2007), issued by International Accounting Standards Board (IASB) on September 6, 2007, some terminologies in the preparation of financial statements are amended. These amendments include the change of the “balance sheet” term to “statement of financial position; “cash flow statement” to statement of cash flow” and “income statement” to “statement of comprehensive income” (income statement is retained in case of a two-statement approach). The revised Standard is effective for annual periods beginning on or after 1 January 2009, with early adoption permitted. This means that the common balance sheet term in your business or personal financial statements will disappear and will be replaced by a new term after the effectivity of the new standard.

What is a statement of financial position?
A statement of financial position, as popularly known as a balance sheet, is one of the basic components of a complete set of financial statements. It is commonly described as a snapshot of an entity’s financial condition as at the end of an accounting period. A standard statement of financial position comprises of assets; liabilities; and owners’, stockholders’ or members’ equity. Assets and liabilities are further divided into current (short-term) or non-current (long-term).

The statement of financial position shows the accounting equation that equals assets to liabilities plus equity. The excess of assets after deducting liabilities is known as the equity or net worth of a business or entity. Current assets include cash and cash equivalents, receivables, inventories, short-term investments and prepayments. Non-current or long-term assets include property and equipment, intangible assets (e.g., goodwill, trademarks and copyrights), long-term investments (such as investment in equity or debt securities), and other non-current assets.

Current liabilities may consist of trade payables (accounts payable), short-term borrowings, and other curret liabilities. Non-current or long-term liabilities may include long-term debts, retirement obligations and other non-current liabilities. Equity may compose of owners’ paid-up capital and accumulated or retained earnings.

What are uses and purpose of a statement of financial position?
The statement of financial position gives its readers and users the financial condition of a certain entity. It shows the liquidity (the ability to readily convert its assets into cash) and solvency (the ability to pay or settle its maturing obligation) of a particular business. It is in this statement that users can identify the strengths and capabilities of a certain entity. Trends such as current ratio (measures solvency), quick ratio (measures liquidity) and debt-to-equity ratio (measures financial and capital risks) can be identified and analyzed in the statement of financial position.

A simple personal statement of financial position gives us the ability to identify our assets or resources we controlled as a result of past events and from which future economic benefits are expected to flow to us; and our liabilities or obligations arising from past transactions or event, the settlement of which may result in the transfer or use of our owned assets, provision of our services or other yielding of economic benefits in the future.

If you are a creditor, you can look and analyze the statement of financial position of a particular company to determine if that company is capable of repaying their obligations before they mature, simply by looking at their quick and current assets and evaluating their debt-to-equity ratio. If you are an investor in a certain company, you can also examine the statement of financial position of your investee company to evaluate its stability and capability to expand operations and increase profitability and financial strength in the long run.