Balance Sheet

The balance sheet is a fundamental accounting tool and an indispensable part of a company's annual financial statements. It provides a snapshot of the financial situation by comparing assets, liabilities and equity as at a specific reporting date. This encyclopedia article explains the basic principles and structural organization of the balance sheet. [1]

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Balance Sheet Meaning: What is a Balance Sheet?

A balance sheet is a financial document that shows the assets, liabilities and equity of a company as at a specific reporting date. It is one of the basic components of the annual financial statements and provides a snapshot of the company's financial situation.
The balance sheet is divided into two main sections: the assets side (assets) and the liabilities side (liabilities). The assets side lists all resources and assets belonging to the company, such as cash, inventories and fixed assets. The liabilities side shows how these assets are financed, through debts such as loans and liabilities, and through equity, which includes the funds provided by the owners of the company and left in the company.
The balance sheet must be balanced according to the principle of the balance sheet equation, whereby the sum of the assets is equal to the sum of the liabilities and equity. It serves as an important source of information for various stakeholders, including investors, lenders and Corporate Management, to assess the financial health and stability of the company.

Balance Sheet Definition: Word Origin

The term "Balance Sheet" is derived from the way this financial statement is structured, reflecting a fundamental accounting principle: the equation that assets must equal the sum of liabilities and equity. The "balance" in the balance sheet comes from these two sides needing to balance out or be equal, showing a snapshot of a company’s financial position at a particular moment in time. The balance sheet is thus named because it displays this balance between the assets, and the liabilities plus equity, ensuring that the financial statement is in equilibrium. [2]

Balance Sheet Structure

The layout of a balance sheet follows a certain structure, which is divided into two main parts: the assets side and the liabilities side. Here is a detailed description of these two pages:

Asset side:
- Fixed assets: Comprises assets tied up in the company for the longer term, such as land, buildings, machinery, vehicles and investments. These are intended for the long-term operation of the company.
- Current assets: Includes current assets that are expected to be converted into cash within one financial year, such as inventories, trade receivables and cash and cash equivalents such as cash in hand and bank balances.
Liabilities side (Equity and Liabilities):
- Equity: Shows the funds provided by the owners and the profits left in the company (e.g. share capital, reserves, profit carried forward).
- Liabilities: Includes current and non-current liabilities to third parties, such as loans, borrowings, provisions for contingent liabilities and trade payables.

The balance sheet is always prepared in such a way that the sum of the assets equals the sum of the liabilities, which reflects the basic principle of the balance sheet equation:

Assets = Equity + Liabilities

This equation forms the basis for the balance sheet and ensures a balanced relationship between assets and sources of capital. [3]

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Types of Balance Sheet

The following table provides an overview of the different types of balance sheet that are commonly used in the business world and are used for different legal, tax and business purposes in Corporate Management:

[4]
Type of Balance Sheet	Description
Commercial Balance Sheet	Prepared in accordance with commercial law to present the annual financial statements of a company.
Tax Balance Sheet	Prepared on the basis of tax regulations to determine the tax base.
Opening Balance Sheet	The balance sheet prepared at the beginning of the financial year to show the initial position of assets and liabilities.
Closing Balance Sheet	The balance sheet at the end of a financial year, which summarizes all assets and liabilities at that time.
Consolidated Balance Sheet	A balance sheet that summarizes the financial information of all subsidiaries of a group in a single balance sheet.
Interim Balance Sheet	A balance sheet drawn up at any time during the financial year, often at the end of a quarter or half-year.
Liquidation Balance Sheet	Prepared when a company is liquidated to show the remaining assets and liabilities.
Further Special Balance Sheets	formation balance sheet, reorganization balance sheet, transformation balance sheet

Why do you need a Balance Sheet?

The balance sheet has several important functions and benefits, both for the internal management of a company and for external stakeholders:

Information Function

The balance sheet provides a detailed overview of a company's financial situation on a specific reporting date. It shows what assets the company owns and what liabilities it has. This information is crucial for investors, lenders, suppliers and customers to assess the creditworthiness and economic stability of the company.

Documentation Function

As part of the annual financial statements, the balance sheet serves as legal documentation. It must be prepared in accordance with legal requirements and officially and bindingly reflects the status of the company. This is particularly important for compliance with regulatory requirements and for legal purposes.

Control Function

For management, the balance sheet provides fundamental data for strategic planning and control. It helps to assess the company's liquidity, financial structure and investment policy. Analyzing balance sheets over time enables management to identify trends and act accordingly.

Comparison Function

Balance sheets make it possible to compare the financial performance of a company over different periods of time or in comparison to other companies in the same industry. This is useful for benchmarking and competitive analysis.

Basis for Taxation

The balance sheet serves as the basis for calculating the tax assessment base. The tax office uses the information from the balance sheet to determine the company's tax liability.

Dividend Calculation

It helps to decide on the distribution of dividends to shareholders. Equity, as presented in the balance sheet, shows the volume of distributable profits.

Transparency and Trust

By disclosing the financial situation, the balance sheet helps to strengthen the confidence of investors, markets and the public in the company. It ensures transparency in business activities and financial results.

The balance sheet is therefore an essential tool in a company's Financial Management and external communication, helping to promote trust and understanding among all stakeholders. [5]

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Where can I view the Balance Sheet?

The ability to view a balance sheet depends on the type of company and the country in which it is registered. Here are some general ways in which balance sheets can be viewed:

Commercial Register:
- In many countries, including Germany, corporations must publish their annual financial statements, including the balance sheet, in the commercial register. These documents are accessible to the public, usually via online platforms such as the German company register.
Company Websites:
- Listed companies often publish their financial reports, including financial statements, on their websites, typically in the "Investor Relations" section. These reports are publicly available and can be viewed by anyone.
Securities Regulators:
- In the U.S., for example, companies listed on a stock exchange are required to file their financial statements with the Securities and Exchange Commission (SEC), which are accessible online through the EDGAR system. Similar facilities exist in other countries, such as the Bundesanzeiger in Germany.
Annual Reports:
- Companies often produce annual business reports that are distributed to shareholders and other stakeholders. These reports usually contain the company's audited financial statements, including the balance sheet.
Libraries and Chambers of Commerce:
- Some libraries and chambers of commerce hold company annual reports and financial statements that can be viewed for research purposes.
Direct Request to the Company:
- If the company is not a publicly traded company and there is no legal requirement for disclosure, it may be possible to ask the company directly for access to its financial records.

These resources allow interested parties to assess the financial situation of a company and gain a deeper insight into its economic situation. [6]

Important terms relating to
the balance sheet explained

Important Balance Sheet Terms

Term	Definition
Assets	The left-hand side of the balance sheet, which represents all of a company's assets, such as fixed and current assets.
Liabilities	The right-hand side of the balance sheet, which includes a company's equity and liabilities.
Total assets	The total amount of assets or liabilities on a balance sheet, which must be equal.
Opening balance sheet	The balance sheet at the beginning of a financial year, which shows the starting position of the company's asset and capital structure.
Closing balance sheet	The balance sheet at the end of a financial year, which shows the financial situation at that time.
Fixed assets	Long-term assets that are used over several years, e.g. buildings, machinery, patents.
Current assets	Short-term assets that are to be liquidated within a financial year, e.g. inventories, receivables.
Equity	Funds contributed by the owners and retained in the company, including retained earnings.
Debt	Funds that come from external sources, such as loans and other liabilities.
Liquidation balance sheet	A balance sheet prepared when a company is dissolved to show the remaining assets and liabilities.
Consolidated balance sheet	A balance sheet that combines the financial information of several subsidiaries into the parent company's balance sheet.

This table provides a comprehensive overview of the key terms related to the balance sheet that are important for understanding the financial presentation of a company. [7]

What is an Electronic Balance Sheet?

An electronic balance sheet, often referred to as an e-balance sheet, is the digital form of the balance sheet that is created and transmitted electronically. In many countries, including Germany, the submission of the balance sheet in electronic form is required by law for many companies. The e-balance sheet is intended to make tax administration more efficient by enabling the direct digital transmission of annual financial statements to the tax office. This improves accuracy, speeds up the process and facilitates data analysis and management.

Important Aspects of the Electronic Balance Sheet

Standardization of data: The electronic balance sheet requires data to be transmitted in accordance with a standardized format. In Germany, this is based on the so-called XBRL format (eXtensible Business Reporting Language), which enables a standardized and structured presentation of financial data.
Mandatory for many companies: Corporations and other companies subject to financial reporting requirements must submit their balance sheets and profit and loss accounts to the tax office in electronic form.
Advantages of digitization: The e-balance sheet offers advantages such as time savings, reduction of paperwork, improved accuracy through automation of data entry and verification as well as easier archiving and accessibility of data.

The introduction of the electronic balance sheet is part of a global trend towards the digitization of financial reporting, which increases transparency and efficiency in corporate reporting worldwide. [8]

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What Balance Sheet Changes can occur and what Measures are then taken?

Changes in the balance sheet occur for various reasons and can have a significant impact on the financial structure of a company. These changes can be the result of business transactions, changes in accounting policy, economic events or legal changes.

Balance Sheet Changes

Here are some typical balance sheet changes, a few examples and how they can change the balance sheet.

Overview of typical balance sheet changes

The following diagram shows the typical balance sheet changes that frequently occur.

Explanation: The typical Balance Sheet Changes

The following balance sheet changes are known and have different consequences.

Increase in Assets

When a company's assets increase, for example through the purchase of new equipment or an increase in receivables, this can indicate expansion or growth. It is important to monitor these investments to ensure that they are profitable and do not jeopardize liquidity.

Decrease in Assets

A decrease in assets, for example through depreciation or the sale of fixed assets, may indicate a restructuring or necessary adjustments. It is crucial to check whether these changes improve operational efficiency or whether they are a sign of financial difficulties.

Increase in Liabilities

An increase in debt can result from new loans or other financing. Companies must ensure that they have capital costs and repayment plans under control in order to avoid over-indebtedness.

Decrease in Liabilities

Repaying debt improves the balance sheet structure and can strengthen a company's credit rating. However, it is important to keep the ratio of equity to debt optimal in order to maximize profitability.

Changes in Equity

Changes in equity can be caused by retained earnings, capital contributions or dividend distributions. These changes should be in line with the company's long-term strategy and take into account the interests of shareholders.

Measures in the Event of Balance Sheet Changes

By actively managing and adapting to changes in the balance sheet, a company can maintain its financial health and respond strategically to challenges and opportunities.

Analysis and monitoring: Regularly analyze the balance sheet and related financial ratios to understand the causes and effects of changes.
Adjust business strategy: Adjust operational and financial strategies based on insights from balance sheet analysis.
Communication with stakeholders: Open communication with investors, lenders and other stakeholders about the reasons for material balance sheet changes and the resulting actions.
Check compliance: Ensure that all balance sheet changes are in line with applicable accounting standards and legal requirements. [9]

Who is obliged to prepare the Balance Sheet?

In Germany, it is primarily corporations such as the GmbH (Gesellschaft mit beschränkter Haftung) and the AG (Aktiengesellschaft) that are required to prepare balance sheets. This also applies to partnerships in which no natural person is involved as a fully liable partner, such as the GmbH & Co. KG. Cooperatives and certain forms of legal entities under public law are also obliged to prepare balance sheets.

Smaller companies and sole traders only have to prepare a balance sheet if they exceed certain size criteria defined in the German Commercial Code (HGB). Smaller businesses and partnerships with natural persons with unlimited liability only have to prepare balance sheets if they exceed certain thresholds according to § 241a HGB, currently €800,000 in sales or €80,000 in surplus in consecutive years. These size criteria determine the point at which a merchant who was previously exempt from accounting becomes subject to accounting requirements. These criteria relate to aspects such as turnover, balance sheet total and number of employees. If these thresholds are exceeded, these smaller companies must also prepare a balance sheet and a profit and loss statement.

In addition to the legal requirements, companies that make use of certain financing or subsidies may also be obliged to prepare a balance sheet, regardless of their legal form or size, as banks or other lenders often require detailed insights into the financial situation. [10]

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Overview of the Types of Companies that are required to prepare financial Statements

This overview summarizes the general guidelines on accounting obligations in Germany and shows that the requirements can vary depending on the type and size of the company. This table briefly shows who is obliged to prepare financial statements in Germany:

Type of Company	Accounting Obligation	Conditions/Criteria
Corporations (e.g. GmbH, AG)	Yes	Automatic obligation regardless of size or turnover
Partnerships without natural partners (e.g. GmbH & Co. KG)	Yes	Automatic obligation regardless of size or turnover
Cooperatives	Yes	Automatic obligation regardless of size or turnover
Legal entities under public law	Yes (in certain cases)	Depending on the specific legal regulation
Smaller companies and sole traders	No (unless certain thresholds are exceeded)	Turnover, balance sheet total and number of employees according to HGB
Small companies that receive subsidies or special financing	Yes (in certain cases)	Requirements of funders regardless of size or form

What is the Golden Balance Sheet Rule?

The golden balance sheet rule is a principle of finance that is used in particular in balance sheet analysis. It states that a company's fixed assets should be financed by long-term capital, i.e. equity and long-term debt. This rule aims to ensure an appropriate maturity match between the financing and the useful life of the assets. Short-term capital should therefore only be used to finance current assets.

Key Points of the Golden Balance Sheet Rule

Long-term financing of fixed assets: Fixed assets include assets such as land, buildings, machinery and operating equipment that are used permanently in the company. These should always be financed by funds available on a long-term basis so as not to jeopardize the company's liquidity.
Short-term financing of current assets: Current assets, which include assets such as inventories, receivables and cash and cash equivalents, should be financed with short-term capital, as these assets are converted into cash within a financial year or operating cycle.

Adherence to the golden balance sheet rule is intended to safeguard the financial stability and solvency of the company by ensuring that the company can meet its financial obligations from current operations without having to resort to long-term assets. This rule also helps to minimize the risk of liquidity bottlenecks and promotes a balanced ratio of equity and debt capital. [11]

FAQ

What is the difference between the balance sheet and the income statement?

The balance sheet and the income statement are both components of a company's annual financial statements, but serve different purposes. The balance sheet provides a snapshot of a company's financial position on a specific reporting date. It shows what the company owns (assets) and what it owes (liabilities), including equity. In contrast, the profit and loss account shows the company's financial performance over a specific period, usually a financial year. It documents income and expenditure and uses this to determine the company's profit or loss. While the balance sheet shows the stability and structure of the company's assets, the income statement reflects its operational efficiency and profitability.

Who has to prepare the balance sheet and income statement?

In Germany, all corporations such as GmbHs and stock corporations as well as partnerships without a natural person as general partner, such as the GmbH & Co. KG, must prepare a balance sheet and profit and loss account (P&L). Registered cooperatives are also obliged to do so. Sole proprietors and partnerships, such as the general partnership (OHG) and the limited partnership (KG) with natural persons as general partners, only have to do this if they exceed certain size criteria in terms of turnover, profit or number of employees. These legal requirements are intended to ensure that external stakeholders such as investors, lenders and government authorities have an insight into the financial situation of companies.

What is the structure of a balance sheet?

The balance sheet is divided into two main sections: the assets side and the liabilities side. The assets side lists the company's assets, which are divided into fixed assets and current assets. Fixed assets include longer-term investments such as machinery, buildings and land, while current assets include short-term items such as inventories, receivables and cash and cash equivalents. The liabilities side shows how these assets are financed, divided into equity and liabilities. Equity represents the funds contributed by the owners and retained in the company, including retained earnings. Liabilities comprise liabilities to third parties, such as loans and other financial obligations. The balance sheet is structured in such a way that the sum of the assets always equals the sum of the liabilities, which is known as the balance sheet equation.

What does HGB balance sheet mean?

A HGB balance sheet refers to a balance sheet that is prepared in accordance with the provisions of the German Commercial Code (HGB). The HGB regulates accounting and ensures that balance sheets are comparable, clear and comprehensible to third parties. The HGB balance sheet must comply with certain classification rules and is characterized by the principle of prudence, which states that all risks and losses must be taken into account, while profits may only be reported if they have actually been realized. This principle is intended to prevent an overstatement of the company's financial position. The HGB balance sheet is particularly relevant for medium-sized companies in Germany and forms the basis for determining profits for tax purposes and the distribution of profits.

What is the difference between inventory and balance sheet?

Stocktaking, inventory and balance sheet are accounting terms that are closely linked but represent different aspects of a company's asset recording and presentation. Stocktaking is the physical process of taking stock of all assets and liabilities of a company at a specific point in time. This includes counting, measuring or weighing the inventory. The result of the inventory is recorded in the inventory, a detailed list that describes all assets and liabilities in quantitative and qualitative terms. The balance sheet, on the other hand, is a summarized financial presentation of this data in account assignment form, structured into assets and liabilities, which is derived from the inventory and shows the financial situation of the company on the balance sheet date. While the inventory is a detailed list, the balance sheet provides a structured and condensed financial overview.