How to Read a Company Balance Sheet

The three sections of a balance sheet

Fixed (non-current) assets sit at the top: property, plant, equipment, intangibles, and long-term investments. Below that, current assets — stock, debtors, cash — are listed in order of liquidity. Liabilities mirror this structure: current liabilities (due within 12 months) are distinguished from long-term liabilities such as term loans or deferred tax.

The difference between total assets and total liabilities is shareholders' equity, comprising share capital, retained earnings, and any revaluation reserves. The balance sheet must balance: every pound of assets is funded by either a creditor or an owner.

What lenders look for

Commercial lenders focus on net asset value (the tangible equity base), gearing (debt as a proportion of equity), and liquidity ratios. A current ratio below 1.0 — where short-term liabilities exceed short-term assets — raises questions about a company's ability to meet near-term obligations without refinancing.

Lenders providing secured facilities will assess the quality of assets offered as security. Goodwill and other intangibles are usually excluded from tangible net worth calculations, which can reduce the apparent asset base significantly for acquisition-heavy businesses.

Common pitfalls for directors

Directors sometimes conflate profit with cash. A profitable company can have a weak balance sheet if profits have been used to fund debtors, stock, or capital expenditure without matching financing. Conversely, a loss-making year does not necessarily impair the balance sheet if reserves are strong.

• Watch for intercompany balances that inflate assets within a group
• Pension deficits appear as a liability and reduce net worth materially for some businesses
• Operating lease capitalisation under FRS 102 Section 20 increases both assets and liabilities — check whether a lender's covenant tests use pre- or post-lease figures