What is Balance Sheet in Accounting?

The balance sheet is one of the most fundamental and important financial documents in accounting. It provides a snapshot of a business's financial position at a specific point in time and shows the relationship between what the business owns (assets) and how it is financed (liabilities). This article provides a comprehensive review of the structure, components, and practical applications of the balance sheet.

Section 1: The Basic Concept of Balance

The balance sheet is based on the fundamental accounting equation that must always be in perfect balance:

Assets = Liabilities + Equity

This equation reflects a simple but powerful principle: Everything a business owns (assets) must be financed either through loans (debt) or the owner's investments and retained earnings (equity).

1.1 The Time Perspective of the Balance Sheet

Unlike the income statement, which shows activity over a period of time, the balance sheet represents a snapshot at a specific point in time, making it a static document that captures the financial position of the business on the balance sheet date.

1.2 The Dual Nature of Balance

The balance sheet can be presented in two ways:

• Horizontal format: Assets on the left, liabilities on the right
• Vertical format: Assets at the top, then liabilities and equity

Section 2: Assets - The Business's Assets

Assets represent all financial resources that the business controls and that are expected to provide future economic benefits. For a detailed review of assets, see our article What are assets? .

2.1 Fixed assets (Fixed assets)

Fixed assets are assets that the business has for permanent ownership and use:

• Tangible fixed assets: Buildings, machinery, inventory
• Intangible assets: Patents, trademarks, goodwill
• Financial assets: Long-term investments, shares

For more information about fixed assets, see What are fixed assets? .

2.2 Current Assets (Current Assets)

Current assets are assets that are expected to be converted into cash within one year:

• Inventory: Raw materials, work in progress, finished goods
• Receivables: Accounts receivable , other receivables
• Short-term investments: Market-based securities
• Cash and bank deposits

Section 3: Liabilities - Sources of Financing

Liabilities show how the business's assets are financed and consist of debt and equity.

3.1 Debt (Liabilities)

Debt represents the business's obligations to external parties:

Long-Term Debt

• Bank loans with a maturity of over one year
• Bond loan
• Pension obligations
• Deferred tax

Short-term Debt

• Accounts payable
• Short-term portion of long-term debt
• Costs incurred
• Taxes and fees owed

3.2 Equity

Equity represents the owners' interest in the business:

• Share capital: Paid-in capital from shareholders. Read more in What is share capital?
• Retained earnings: Retained earnings from previous years
• Result for the year: Net result for the current year

Section 4: The Practical Construction of the Balance Sheet

4.1 Standardized Balance Sheet Layout

Norwegian businesses follow a standardized balance sheet structure that ensures comparability:

ASSETS	Amount	LIABILITIES	Amount
FIXED ASSETS		EQUITY
Intangible assets	150,000	Share capital	500,000
Tangible fixed assets	2,500,000	Earned equity	1,200,000
Financial fixed assets	300,000	Total equity	1,700,000
Total fixed assets	2,950,000
		DEBT
CIRCULATORS		Long-term debt	1,800,000
Inventory	800,000	Short-term debt	650,000
Claims	400,000	Total debt	2,450,000
Cash and banking	200,000
Total current assets	1,400,000
TOTAL ASSETS	4,350,000	TOTAL LIABILITIES	4,350,000

4.2 Balance Control and Reconciliation

A correct balance sheet must always have equal amounts on the asset and liability sides. If the balance sheet is not correct, this indicates errors in the accounting that must be identified and corrected. This is where reconciliation and variance management become critically important.

Section 5: The Role of the Balance Sheet in Financial Analysis

5.1 Liquidity analysis

The balance sheet provides a basis for assessing the business's liquidity - the ability to meet short-term obligations:

• Working capital = Current assets - Current liabilities
• Liquidity ratio 1 = Current assets / Current liabilities
• Liquidity ratio 2 = (Current assets - Inventory) / Current liabilities

These key figures are fundamental to assessing a company's solvency and financial stability. For a deeper insight into working capital, see What is working capital? .

5.2 Solvency analysis

Solidity measures the financial strength and stability of the business:

• Equity ratio = Equity / Total assets
• Debt ratio = Total debt / Total assets
• Interest coverage ratio = Operating profit / Interest expenses

5.3 Efficiency analysis

The balance sheet is also used to measure how efficiently the business is using its resources:

• Return on total assets = Operating profit / Average total assets
• Return on equity = Profit for the year / Average equity
• Asset turnover = Sales / Average total capital

Section 6: The Balance Sheet's Relationship to Other Financial Reports

6.1 Link to the Income Statement

The balance sheet and income statement are closely linked:

• The profit for the year from the income statement is transferred to equity in the balance sheet.
• Depreciation reduces the value of fixed assets on the balance sheet. Read more about depreciation
• Accruals affect both profit and loss and balance sheet items.

6.2 Link to the Cash Flow Statement

The cash flow statement explains changes in cash balances between two balance sheets:

• Changes in working capital affect cash flow from operations
• Investments in fixed assets are shown as cash flow from investing activities.
• Borrowing and repayment affect cash flow from financing activities

Section 7: Special Balance Sheet Items and Assessments

7.1 Inventory

Inventories can be valued using various methods:

• FIFO (First In, First Out)
• Average cost
• Least value principle

7.2 Claims

Receivables must be assessed for loss on claims :

• Individual assessments of large receivables
• Group assessments based on historical loss experience
• Write-down of receivables considered to be lost

7.3 Fixed assets and Depreciation

Fixed assets should be depreciated over their expected useful lives:

• Straight-line depreciation: Equal depreciation each year
• Balance depreciation: Percentage depreciation of remaining value
• Production depreciation: Based on actual usage

For intangible assets, amortization is used. Read more in What is amortization?.

Section 8: Legal and Regulatory Aspects of the Balance Sheet

8.1 Accounting Act Requirements

Norwegian accounting law sets specific requirements for the content and presentation of the balance sheet:

• Classification of items by type and maturity
• Comparative figures from previous year
• Notes that explain and elaborate on balance sheet items

8.2 The Annual Accounts and Balance Sheet

The balance sheet is an integral part of the annual accounts together with:

• Income statement
• Cash flow statement
• Notes to the financial statements
• Annual report

For more on year-end closing, see What is a closing balance? .

Section 9: Practical Tips for Balance Management

9.1 Monthly Balance Check

To ensure correct balance throughout the year:

• Monthly reconciliations of all main accounts
• Control of interim calculations and accruals
• Follow-up of deviations and unexplained changes

9.2 The year-end closing process

At year-end, extra thoroughness is required:

• Inventory of inventory and fixed assets
• Valuation of receivables and payables
• Calculation of accruals and provisions
• Checking that all transactions are correctly classified

9.3 Digital Tools and Systems

Modern accounting systems offer:

• Automatic balancing and control
• Real-time reporting of balance status
• Integrated reconciliation tools
• Automatic accruals

Section 10: The Importance of Balance Sheet for Various Stakeholders

10.1 For the Management

The balance sheet provides management with important information about:

• Financial position and stability
• Capital structure and financing needs
• Liquidity situation and payment capacity
• Resource allocation and investment opportunities

10.2 For Investors and Creditors

External stakeholders use the balance sheet to assess:

• Creditworthiness and risk
• Return potential on investments
• Financial strength and sustainability
• Comparison with other businesses

10.3 For Tax Authorities

The tax authorities use the balance sheet to:

• Checking tax values
• Assessment of taxable gains and losses
• Follow-up of tax depreciation
• Verification of reported figures

Conclusion

The balance sheet is a fundamental accounting tool that provides a complete picture of a business's financial position. It acts as a snapshot showing how the business's resources are structured and financed.

Understanding the structure and components of the balance sheet is essential for:

• Financial management and decision-making
• Financial analysis and risk assessment
• Communication with stakeholders
• Compliance with legal requirements

A correct and balanced balance sheet requires systematic work with trial balances , thorough reconciliations and continuous quality control. By mastering the principles of the balance sheet and its practical application, one lays the foundation for solid financial management and reliable financial reporting.

The balance sheet is not just an accounting document, but a strategic tool that reflects the financial health and future prospects of the business. It tells the story of how the business has built its resources and how it has chosen to finance its growth and development.