How to Read a Financial Report, 10th Edition

4BEDROCK FINANCIAL STATEMENT #2: THE BALANCE SHEET

Business managers, lenders, investors, analysts, and a slew of other parties need to know the financial condition of a business at a point in time. They need a report that summarizes the business entity’s assets, both current and long term, and liabilities, both current and long term, as well as the ownership residual of its assets in excess of liabilities (often referred to as owners’ equity). The financial condition of a business is reported in the second of the two bedrock financial statements, the balance sheet.

Similar to the income statement, I would offer a word of caution about the balance sheet before you dive deeper into its purpose and structure: The balance sheet is where losses go to hide, cash goes to die, and bullshit goes to lie. Conversely, you must always assess the balance sheet from the perspective of whether the assets are lying to you, and whether the liabilities are telling you the truth.

You may ask yourself what in the hell am I talking about, to which I would offer this simple case study related to a common asset on businesses balance sheets: inventory.

Inventory represents goods and products that are owned by a business and which are available for sale but have not been sold as of the date the balance sheet is prepared. As such, inventory represents an asset of the business. But looking closer at inventory, you should pay attention to these three potential issues:

1. If the inventory asset continues ...