How to Make a Classified Balance Sheet in 6 Steps

How to Make a Classified Balance Sheet in 6 Steps

By Blogtrepreneur

© tashatuvango / Dollar Photo Club

The Balance Sheet is a snapshot of your company’s finances. The basic parts of it are Assets, Liabilities, and Equity. Knowing the numbers for just these three categories can show you how much debt you have and how much profit you have accumulated.

If you want to build a balance sheet for your small business then this article will show you the 6 basic steps to do so. We will go through the steps using an ecommerce business example. I suggest that you use the same format from the spreadsheet in the example and follow along by thinking of real items from your own business.

  1. The Balance Sheet Formula

First, you will need to get a basic understanding of what the balance sheet is. The balance sheet gets its name because it is actually a formula that balances. The formula is Assets = Liabilities + Equity.

Assets are broken down into current and long term. The only difference is the liquidity of the asset. Current assets can be liquidated within the next 12 months and the rest are long term. Liquidity is how fast the asset can turn into cash.

For example if you are in your 30s and you have a 401k retirement account worth $50k then that would be an asset on your personal balance sheet. But you cannot use that money until you are 59 years old, so the asset is not very liquid.

Who is the Real Owner of your Company?

Next up is Liabilities and Equity. Here is where you show the ownership of the company. If you have a ton of debt in the form of loans to the bank or credit card balances then those amounts will show up in the liabilities section. Liabilities are also shown as either current or long term.

The Equity section shows how the accumulated profits are classified. If you took some money from investors in exchange for a percentage of ownership then that would be shown in the Equity section. But if you funded your business by yourself then you will only see the accumulated profits which is also called retained earnings.

  1. Get Your Accounts Ready for Balance Sheet Action.

Let’s get started with our balance sheet example. Tom’s Candles is an ecommerce store that sells candles. Tom’s Candles has a full time bookkeeper that records all financial transactions. The screenshot below shows an excerpt of the transactions for the month of June 2015.

Description Amount Payment Method
ecommerce store website monthly fee $79 paypal
purchase gift boxes for 1,000 pieces of inventory $950 paypal
purchase inventory of 1,000 pieces $5,000 paypal
shipping inventory of 1,000 pieces from supplier to our warehouse $650 sent invoice due in 45 days
bookkeeper salary for june (not yet paid) $1,500 n/a
travel in june $900 paypal
purchased shrink wrap machine (will last for 10 years) $1,800 paypal
sold 50 pcs of inventory $1,000 paypal
sold 25 pcs of inventory $500 paypal
sold 350 pcs of inventory $7,000 rec’d invoice due in 90 days
annual loan payment $1,000 paypal
paypal service fees $44 paypal

The first step to creating a balance sheet is to find the balance sheet accounts. In order to get all the accounts necessary we will need to know the payment method for each transaction as shown in the example. Everything that was paid via Paypal will be considered a cash transaction.

All Transactions to the Balance Sheet!

Every one of the transactions your company has will affect the balance sheet somehow. Even profits will roll over to the equity portion of the balance sheet. In fact, some transactions will only affect the balance sheet.

The best way to identify the correct balance sheet accounts is to eliminate the expense and revenue accounts. Without getting into too much accounting detail the basic rules are:

  1. if you are paying or receiving cash then that transaction will affect the cash account
  2. if you will pay or receive cash in the near future then the receivable, payable, or short term loan accounts will be affected
  3. every purchase required to get inventory from the supplier to your warehouse will affect the inventory account
  4. purchase of assets will affect the fixed asset account

Once you have identified the balance sheet accounts then you will need to classify them on your transaction sheet into one of the following sections: Current Assets, Long Term Assets, Current Liabilities, Long Term Liabilities, and Equity.

Here is the example from Tom’s Candles that shows the balance sheet accounts labeled:

Description Amount Payment Method Balance Sheet Account
ecommerce store website monthly fee $79 paypal cash
purchase gift boxes for 1,000 pieces of inventory $950 paypal cash
purchase inventory of 1,000 pieces $5,000 paypal cash
shipping inventory of 1,000 pieces from supplier to our warehouse $650 sent invoice due in 45 days accounts payable
bookkeeper salary for june (not yet paid) $1,500 n/a accounts payable
travel in june $900 paypal cash
purchased shrink wrap machine (will last for 10 years) $1,800 paypal cash
sold 50 pcs of inventory $1,000 paypal inventory
sold 25 pcs of inventory $500 paypal inventory
sold 350 pcs of inventory $7,000 rec’d invoice due in 90 days inventory
annual loan payment $1,000 paypal cash
paypal service fees $44 paypal cash

A Note on the Wording

I tend to use the phrase fixed assets because in our example we only have that one kind of depreciable asset. But other classified balance sheets will label this under Property Plant and Equipment. This is essentially the same thing. There can be other types of Property Plant and Equipment that are not fixed assets but for most businesses that is not applicable.

You might find other different wording in this example. Keep in mind that different people use different words to mean the same thing. This depends on preference.

  1. Create T Accounts to Make it Easier.

In order to get the balances to be correct for our balance sheet we will need to create T accounts and get the beginning and ending balance for each account. The beginning balance is not on the transaction sheet so we will have to get that from our last month’s balance sheet or if it’s the first month of operations it will be 0.

Here’s some additional information from our balance sheet example:

Notes and Other Information
Profit from the Income Statement for June $3,172
Each candle costs a total of $6.60
Each candle sells for $20
Accounts Payable Balance as of June 1 $3,900
Inventory Balance as of June 1 $3,500
Accounts Receivable Balance as of June 1 $800
Fixed Asset Balance as of June 1 $6,000
S/T Loan Balance as of June 1 $1,000
L/T Loan Balance as of June 1 $20,000
Cash Balance as of June 1 $85,000
Accumulated Profit as of June 1 $70,400

To create a T account simply make borders in your spreadsheet in the shape of a T and label the top cells with the account name, then a few rows down at the bottom create a sum formula that subtracts the sum of the left column from the right column like this:

This will be the format for the Assets side and you will only have to reverse the formula for the Liability and Equity side so it looks like this:

Now you will need to put each transaction into the correct account. For the asset side any transaction that increases the balance should go on the left side and any amount that decreases the balance will go on the right.

For the Liability and Equity side it is the opposite. Any amount that will increase the balance needs to go on the right side and amounts that decrease the balance will go on the left.

Leave the top row right under the account heading blank so that we can put the beginning balance in on the next step.

Now you should have a nice set of T accounts with balances that add up at the bottom just like this:

Cash Accounts Payable
$1,000 $79 $650
$500 $950 $1,500
$5,000
$900 $2,150
$1,800 Short Term Loan
$1,000
$44 $1,000
-$8,273
Accounts Receivable -$1,000
Long Term Loan
$7,000
$7,000
Inventory $0
$6,600 Retained Earnings
$2,805
$3,795 $3,172
Fixed Assets
$3,172
$1,800
$1,800

Where Did I Get the Retained Earnings Number?

You may be wondering why there is a retained earnings account and where the number came from. Remember from step 3 we had the Notes and Other Information table? That table showed us that the profits for June are $3,172. Because we don’t have any more information that affects earnings, that full amount will be our Retained Earnings change for this month.

Normally you would have more information like taxes that would reduce this number but for this example we will keep it simple and show the basic concepts.

  1. Now, Finally Get the Balances for Your Balance Sheet.

Once you have the T accounts set up and all the numbers put in you can start to build the Balance Sheet. The next step is to get the totals from the previous period and add them to the changes you have from this period.

For example in the Cash account we see from the Notes and Other Information table that the balance at the beginning of June was $85,000. Looking at the T account for Cash I see that the net impact this month is negative 8,273 dollars. That means that this month’s ending balance will be $76,727.

Normally you would also do a bank reconciliation to make sure that that cash account is correct, but in this example we will assume that our bookkeeper made no mistakes and recorded all transactions.

To do this step quickly all you need to do is copy the beginning balance from the Notes and Other Information table (prior month’s ending balance) to the first row in your T account. The same rules as the previous step applies: For asset accounts if the beginning balance is positive(greater than zero) it goes on the left side, for Liability and Equity accounts if the amount is positive it goes on the right side.

Here is a screenshot of how it looks from our example balance sheet of Tom’s Candles:

Cash Accounts Payable
$85,000 $3,900
$1,000 $79 $650
$500 $950 $1,500
$5,000
$900 $6,050
$1,800 Short Term Loan
$1,000 $1,000
$44 $1,000
$76,727
$0
Accounts Receivable
$800 Long Term Loan
$7,000 $20,000
$7,800 $20,000
Inventory
$3,500
$6,600 Retained Earnings
$2,805 $70,400
$7,295 $3,172
Fixed Assets $73,572
$6,000
$1,800
$7,800

Again with the Retained Earnings Account…

Ok I guess I tricked you again with the retained earnings account. The beginning balance came from the Accumulated Profit as of June 1 line in the Notes and Other Information table from step 3.

Retained Earnings is the only equity account we have in this example and for your small online business thats pretty much all it will be as well. When selling your online business this amount when broken into an average monthly number is often called the seller’s discretionary income.

If you take it out of the business and spend it on buying a new car or tv then it would no longer be on your balance sheet. This amount represents only the money that has not been spent and stays with the company to fund future growth.

  1. Make Your Balance Sheet Look Pretty With Correct Formatting.

This is really just a formality and depending on who will actually see your balance sheet may not be necessary. If you are doing this for yourself then you can format it however you like to see it. To create a formal classified balance sheet you will need to be sure to put in the proper heading, organize the accounts properly, show subtotals, and show the total of liabilities + equity.

Balance sheets are always a snapshot in time. Therefore the balance sheet should be labeled “as of” a certain date. For example if you are showing January 2015’s balance sheet it should be labeled “Balance Sheet as of January 31 2015.” It should not be labeled “For the month of January 2015.”

The organization of the accounts will go Assets, Liabilities, and then Equity. You must show the individual accounts and subtotals indented. Also the balancing of the balance sheet must be obvious so you have to show the total assets number as well as the liability + equity total number.

Here is the balance sheet example from Tom’s Candles:

Tom’s Candles Balance Sheet as of June 30th 2015
ASSETS
Current Assets
Cash $76,727
Accounts Receivable $7,800
Inventory $7,295
Long Term Assets
Fixed Assets $7,800
Total Assets $99,622
LIABILITIES AND EQUITY
Current Liabilities
Accounts Payable $6,050
Short Term Loan $0
Long Term Liabilities
Long Term Loan $20,000
Equity
Retained Earnings $73,572
Total Liabilities and Equity $99,622
  1. Make Your Balance Sheet More Useful and Show Multiple Periods.

The next important step is to show multiple periods. The balance sheet is not very useful if the reader of the statements only sees one period. Showing multiple periods can demonstrate trends and show a more indepth view of your company’s financial strength.

You can show that information in a column right next to the one that you just made. Lets take a look at our balance sheet example of Tom’s Candles to see how this looks:

Tom’s Candles Balance Sheet
ASSETS as of 6/30/2015 as of 5/31/2015
Current Assets
Cash $76,727 $85,000
Accounts Receivable $7,800 $800
Inventory $7,295 $3,500
Long Term Assets
Fixed Assets $7,800 $6,000
Total Assets $99,622 $95,300
LIABILITIES AND EQUITY as of 6/30/2015 as of 5/31/2015
Current Liabilities
Accounts Payable $6,050 $3,900
Short Term Loan $0 $1,000
Long Term Liabilities
Long Term Loan $20,000 $20,000
Equity
Retained Earnings $73,572 $70,400
Total Liabilities and Equity $99,622 $95,300

Conclusion

Now it’s time for you to take action and actually do this for your own business. It is very easy to look at this example and picture how to do it in your mind. But you will need to pull up a real spreadsheet and start typing in actual information in order for this to really sink in.

As you do so you will learn something about your business. You may learn that you will need to put more cash in your bank if things keep going well, or you may learn that you have too much cash in the bank and need to invest it to maximize profits. If nothing else, you will learn how Balance Sheet accounts are classified and be able to communicate more effectively with your accountant.

Author Bio

Tom Matthews

The main contributor and founder of WiseNumbers.com. Tom enjoys helping small business owners on and offline to understand how accounting can help save time and money. His expertise is in setting up accounting systems for small business owners. He lives with his wife and two sons in Korea.

The post How to Make a Classified Balance Sheet in 6 Steps appeared first on Blogtrepreneur – For Busy Entrepreneurs.

      

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