Balance sheet is related along with reporting the financial position of an entity on a specific point in time. Such position is conveyed in terms of listing all the things of value owned through the entity as also the claims against these things of value that is responsibilities. The position as represented through, that is Assets. The balance sheet is applicable only till other transaction is carried out through the entity.
The above statement can be elaborated through an illustration:
I want to purchase a car costing Rs. 8, 00,000. To do same, I have to borrow capital or money. A bank agrees to finance me whether I can invests 3, 00,000 on my own.
Currently, let us follow the sequence of events while I approach the bank along with the proposal. Granting my capability to repay the loan, the banker will ask two exact questions as:
- What are the things of value you own?
- How much do you owe, and to whom?
Instead, the banker would like to identify what I am worth in material terms. Then my replies to the questions could be tabulated as given:
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Rs.
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Rs.
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Personal loan from friend
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1,00,000
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Balance with bank
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3,50,000
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Fixed deposits
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1,50,000
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Other personal belongings
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5,00,000
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1,00,000
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10,00,000
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It implies I own Rs. 10,00,000 worth things of value, Rs. 3,50,000 of such could be withdrawn in anytime in cash. It means that I have Rs. 3,50,000 in liquid form. The other Rs. 1,50,000 is in monetary investment and the remain Rs. 5,00,000 is in non-monetary property. Moreover, I owe Rs. 1,00,000 to friend of mine. Instead, he has found a claim against the things of value owned through me to the extent of Rs. 1,00,000. In brief, it implies that I am worth Rs. 10,00,000, claim against my worth is Rs. 1,00,000 and thus my net worth is Rs. 9,00,000. It means that Rs. 9,00,000 is my own claims against the effects of value owned through me or my net worth.