In the midst of building your first startup, you’re probably heard the term “balance sheet” thrown around quite a bit. Now, for anyone without a background in finance, the term can be more than a little intimidating. And if you’re applying for a loan or courting investors, you not only need to understand what a balance sheet is, but you’ll also need to know how to prepare a balance sheet for a startup company. Fortunately, it’s not as scary as it sounds.
What is a balance sheet?
Before getting into how to prepare a balance sheet for a startup company, it’s important to understand what the heck a balance sheet even is.
Understood in the simplest terms, a balance sheet is a financial statement that shows what a business owns (assets), what it owes (liabilities), and the value of the owner’s investment in the business (owner’s equity). In other words, it’s an important document that serves as a snapshot of a business’ finances at a specific point in time by comparing what you own to what you owe.
It’s important to note that the balance sheet shows information for only a specific period of time, while the income statement and cash flow statement shows the whole fiscal year. Consequently, the balance sheet is simply one piece of the financial puzzle.
What does a balance sheet look like?
A balance sheet is fairly straightforward in that it consists of just two columns: assets on the left, and liabilities and owner’s equity on the right.
The total assets must equal total liabilities + total owners equity. In other words, the totals on each side must be in perfect balance—hence the name balance sheet.
Assets = Liabilities + Equity
Why is the balance sheet so important for startups?
The balancing of this equation is important because, as a company’s assets grow, its liabilities and/or equity also need to grow in order for a company’s financial position to stay in balance.
While investors may not find the balance sheet as exciting as other financial statements because it does not include revenue, that doesn’t mean it’s not important. For investors, the balance sheet explains how a company’s assets are supported or financed, which reveals a lot about a company’s financial health. In many cases, investors will look for a greater equity value compared to liabilities as a sign of a positive investment. Conversely, having high levels of debt can signal that a business will face financial issues.
How to prepare a balance sheet for a startup company?
Before you even begin plugging your numbers in, you’ll need to chose the date for your balance sheet because the balance sheet will only show the assets, liabilities, and equity for a specific day of the year. While the balance sheet can be prepared at any time, it is usually calculated when the business starts, at the end of the month, the end of the quarter, or the end of the year.
With your date chosen, begin by listing your company’s current assets. This can include things like cash, inventory, and prepaid expenses like insurance. In this section, the accounts should be listed in the descending order of their liquidity (how easily they can be converted to cash). Accounts receivable is normally included here as an asset. However, if a business has just started, there will be no money owed to the business at this point.
Next, it’s on to your fixed or long-term assets. This included things such as property, equipment, and vehicles. You will also need to list any intangible assets. This refers to non-monetary assets that have no physical substance and will last more than 1 year, such as a copyright, patent, or trademark.
Now add up all your current, fixed, and other assets to calculate you total assets.
Moving over to the right side of the balance sheet, you’ll need to list any current liabilities, such as accounts payable or business credit cards.
The next step is to consider your fixed or long-term liabilities. This can include things like notes payable or mortgages.
Like your assets, add up all your current and long-term liabilities to calculate your total liabilities.
Lastly, you’ll need to calculate equity. The difference between assets and liabilities is shown on the right side of the balance sheet as “retained earnings” (if it’s a corporation) or “owner’s equity” (if it’s an unincorporated business).
To calculate retained earnings, find the ending balance of retained earnings from the previous period on your annual report. Then, add the net income (revenue minus expenses) from your income statement, deduct any dividends paid to investors, and you will get the final total for current retained earnings.
For owner’s equity, list all the equity accounts like common stock, treasury stock, and the retained earnings. Once all the equity accounts are listed, add them up to get total owner’s equity.
Finally, add the total liabilities to the total owner’s equity. The number you get should be the same as your total assets. If your numbers are not balanced, you may have omitted, duplicated, or miscategorized one of your accounts.
A sample balance sheet may look like the following:
The above is simply an example, however Xero has created free templates in Google Sheets that you can use to begin plugging your own numbers in. Simply download the sheet below, create a copy, and then navigate to the Balance Sheet tab.
With the information and examples above, you’ll have a better understanding of how to prepare a balance sheet for a startup company.
Of course, plugging these numbers in regularly can be a major time suck for busy founders. If you’re ready to hand the balance sheet over to someone else, consider outsourcing your books to a dedicated bookkeeping firm.